Understanding Taxation
To tax (from the Latin taxo; "I estimate") is to impose a financial charge or other levy upon a taxpayer (an individual or legal entity) by a state or the functional equivalent of a state such that failure to pay is punishable by law. Taxes are also imposed by many administrative divisions. Taxes consist of direct tax or indirect tax, and may be paid in money or as its labour equivalent (often but not always unpaid labour). A tax may be defined as a "pecuniary burden laid upon individuals or property owners to support the government [...] a payment exacted by legislative authority." [1] A tax "is not a voluntary payment or donation, but an enforced contribution, exacted pursuant to legislative authority" and is "any contribution imposed by government [...] whether under the name of toll, tribute, tallage, gabel, impost, duty, custom, excise, subsidy, aid, supply, or other name."[1] Contents [hide]
1 Overview
o
1.1 Tax rates
2 Purposes and effects o o
2.1 Proportional, progressive, regressive, and lump-sum 2.2 Direct and indirect
3 Kinds of taxes o 3.1 Taxes on income
3.1.1 Income tax 3.1.2 Capital gains tax 3.1.3 Corporate tax
o o o
3.2 Social security contributions 3.3 Taxes on payroll or workforce 3.4 Taxes on property
3.4.1 Property tax 3.4.2 Inheritance tax 3.4.3 Expatriation tax 3.4.4 Transfer tax 3.4.5 Wealth (net worth) tax
o
3.5 Taxes on goods and services
3.5.1 Value added tax (Goods and Services Tax) 3.5.2 Sales taxes 3.5.3 Excises
o o
3.6 Tariff 3.7 Other taxes
3.7.1 License fees 3.7.2 Poll tax 3.7.3 Other
o
3.8 Descriptive labels given some taxes
3.8.1 Ad valorem
o
3.8.2 Consumption tax 3.8.3 Environmental tax
3.9 Fees and effective taxes
4 History o o
4.1 Taxation levels 4.2 Forms of taxation
5 Economic effects o o
5.1 Tax incidence 5.2 Reduced economic welfare
5.2.1 Cost of compliance 5.2.2 Deadweight costs of taxation 5.2.3 Perverse incentives 5.2.4 Reduced production
o
5.3 Increased economic welfare
5.3.1 Pigovian taxes 5.3.2 Reduced inequality
6 Views on taxation o o
6.1 Support for taxation 6.2 Opposition to taxation
7 Theories on taxation o o
7.1 Laffer curve 7.2 Optimal tax
8 See also o 8.1 By country or region
9 Notes 10 External links [edit]Overview
Pieter Brueghel the Younger, The tax collector, 1640
The legal definition and the economic definition of taxes differ in that economists do not consider many transfers to governments to be taxes. For example, some transfers to the public sector are comparable to prices. Examples include tuition at public universities and fees for utilities provided by local governments. Governments also obtain resources by creating money (e.g., printing bills and minting coins), through voluntary gifts (e.g., contributions to public universities and museums), by imposing penalties (e.g., traffic fines), by borrowing, and by confiscating wealth. From the view of economists, a tax is a non-penal, yet compulsory transfer of resources from the private to thePublic sector levied on a basis of predetermined criteria and without reference to specific benefit received. In modern taxation systems, taxes are levied in money; but, in-kind and corvée taxation are characteristic of traditional or pre-capitaliststates and their functional equivalents. The method of taxation and the government expenditure of taxes raised is often highly debated inpolitics and economics. Tax collection is performed by a government agency such as Canada Revenue Agency, the Internal Revenue Service (IRS) in the United States, or Her Majesty's Revenue and Customs (HMRC) in the United Kingdom. When taxes are not fully paid, civil penalties (such as fines or forfeiture) or criminal penalties (such as incarceration)[2] may be imposed on the non-paying entity or individual.
[edit]Tax rates Main article: Tax rate Taxes are most often levied as a percentage, called the tax rate. An important distinction when talking about tax rates is to distinguish between the marginal rate and the effective (average) rate. The effective rate is the total tax paid divided by the total amount the tax is paid on, while the marginal rate is the rate paid on the next dollar of income earned. For example, if income is taxed on a formula of 5% from $0 up to $50,000, 10% from $50,000 to $100,000, and 15% over $100,000, a taxpayer with income of $175,000 would pay a total of $18,750 in taxes. Tax calculation
(0.05*50,000) + (0.10*50,000) + (0.15*75,000) = 18,750 The "effective rate" would be 10.7%: 18,750/175,000 = 0.107 The "marginal rate" would be 15%. [edit]Purposes and effects Money provided by taxation has been used by states and their functional equivalents throughout history to carry out many functions. Some of these include expenditures on war, the enforcement of law and public order, protection of property, economic infrastructure (roads, legal tender, enforcement of contracts, etc.), public works, social engineering, and the operation of government itself. Governments also use taxes to fund welfare and public services. A portion of taxes also go to pay off the state's debt and the interest this debt accumulates. These services can include education systems, health care systems, pensions for the elderly, unemployment benefits, and public transportation. Energy, water and waste management systems are also common public utilities. Colonial and modernizing states have also used cash taxes to draw or force reluctant subsistence producers into cash economies. Governments use different kinds of taxes and vary the tax rates. This is done to distribute the tax burden among individuals or classes of the population involved in taxable activities, such asbusiness, or to redistribute resources between individuals or classes in the population. Historically, the nobility were supported by taxes on the poor; modern social security systems are intended to support the poor, the disabled, or the retired by taxes on those who are still working. In addition, taxes are applied to fund foreign aid and military ventures, to influence the macroeconomicperformance of the economy (the government's strategy for doing this is called its fiscal policy; see also tax exemption), or to modify
patterns of consumption or employment within an economy, by making some classes of transaction more or less attractive. A nation's tax system is often a reflection of its communal values or/and the values of those in power. To create a system of taxation, a nation must make choices regarding the distribution of the tax burden—who will pay taxes and how much they will pay—and how the taxes collected will be spent. In democratic nations where the public elects those in charge of establishing the tax system, these choices reflect the type of community that the public wishes to create. In countries where the public does not have a significant amount of influence over the system of taxation, that system may be more of a reflection on the values of those in power. All large businesses incur administrative costs in the process of delivering revenue collected from customers to the suppliers of the goods or services being purchased. Taxation is no different, the resource collected from the public through taxation is always greater than the amount which can be used by the government. The difference is called compliance cost, and includes for example the labour cost and other expenses incurred in complying with tax laws and rules. The collection of a tax in order to spend it on a specified purpose, for example collecting a tax on alcohol to pay directly for alcoholism rehabilitation centres, is called hypothecation. This practice is often disliked by finance ministers, since it reduces their freedom of action. Some economic theorists consider the concept to be intellectually dishonest since, in reality, money is fungible. Furthermore, it often happens that taxes or excises initially levied to fund some specific government programs are then later diverted to the government general fund. In some cases, such taxes are collected in fundamentally inefficient ways, for example highway tolls. Some economists, especially neo-classical economists, argue that all taxation creates market distortion and results in economic inefficiency. They have therefore sought to identify the kind of tax system that would minimize this distortion.
Since governments also resolve commercial disputes, especially in countries with common law, similar arguments are sometimes used to justify a sales tax or value added tax. Others (e.g.libertarians) argue that most or all forms of taxes are immoral due to their involuntary (and therefore eventually coercive/violent) nature. The most extreme anti-tax view is anarcho-capitalism, in which the provision of all social services should be voluntarily bought by the person(s) using them. [edit]Proportional, progressive, regressive, and lump-sum An important feature of tax systems is the percentage of the tax burden as it relates to income or consumption. The terms progressive, regressive, and proportional are used to describe the way the rate progresses from low to high, from high to low, or proportionally. The terms describe a distribution effect, which can be applied to any type of tax system (income or consumption) that meets the definition.
A progressive tax is a tax imposed so that the effective tax rate increases as the amount to which the rate is applied increases.
The opposite of a progressive tax is a regressive tax, where the effective tax rate decreases as the amount to which the rate is applied increases. This effect is commonly produced where means testing is used to withdraw tax allowances or state benefits.
In between is a proportional tax, where the effective tax rate is fixed, while the amount to which the rate is applied increases.
A lump-sum tax is a tax that is a fixed amount, no matter the change in circumstance of the taxed entity. This in actuality is a regressive tax as in actuality those with lower income must use higher percentage of their income than those with higher income and therefore the effect of the tax reduces as a function of income.
The terms can also be used to apply meaning to the taxation of select consumption, such as a tax on luxury goods and the exemption of basic necessities may be described as having progressive effects as it increases a
tax burden on high end consumption and decreases a tax burden on low end consumption.[3][4][5] [edit]Direct and indirect Main articles: Direct tax and Indirect tax Taxes are sometimes referred to as "direct taxes" or "indirect taxes". The meaning of these terms can vary in different contexts, which can sometimes lead to confusion. An economic definition, by Atkinson, states that "...direct taxes may be adjusted to the individual characteristics of the taxpayer, whereas indirect taxes are levied on transactions irrespective of the circumstances of buyer or seller."[6] According to this definition, for example, income tax is "direct", and sales tax is "indirect". In law, the terms may have different meanings. In U.S. constitutional law, for instance, direct taxes refer to poll taxes and property taxes, which are based on simple existence or ownership. Indirect taxes are imposed on events, rights, privileges, and activities.[7] Thus, a tax on the sale of property would be considered an indirect tax, whereas the tax on simply owning the property itself would be a direct tax. [edit]Kinds of taxes The Organisation for Economic Co-operation and Development (OECD) publishes an analysis of tax systems of member countries. As part of such analysis, OECD developed a definition and system of classification of internal taxes,[8] generally followed below. In addition, many countries impose taxes (tariffs) on the import of goods. [edit]Taxes on income [edit]Income tax Main article: Income tax Many jurisdictions tax the income of individuals and business entities, including corporations. Generally the tax is imposed on net profits from business, net gains, and other income. Computation of income subject to tax
may be determined under accounting principles used in the jurisdiction, which may be modified or replaced by tax law principles in the jurisdiction. The incidence of taxation varies by system, and some systems may be viewed as progressive or regressive. Rates of tax may vary or be constant (flat) by income level. Many systems allow individuals certain personal allowances and other nonbusiness reductions to taxable income. Personal income tax is often collected on a pay-as-you-earn basis, with small corrections made soon after the end of the tax year. These corrections take one of two forms: payments to the government, for taxpayers who have not paid enough during the tax year; and tax refunds from the government for those who have overpaid. Income tax systems will often have deductions available that lessen the total tax liability by reducing total taxable income. They may allow losses from one type of income to be counted against another. For example, a loss on the stock market may be deducted against taxes paid on wages. Other tax systems may isolate the loss, such that business losses can only be deducted against business tax by carrying forward the loss to later tax years. [edit]Capital gains tax Main article: Capital gains tax Most jurisdictions imposing an income tax treat capital gains as part of income subject to tax. Capital gain is generally gain on sale of capital assets, i.e., those assets not held for sale in the ordinary course of business. Capital assets include personal assets in many jurisdictions. Some jurisdictions provide preferential rates of tax or only partial taxation for capital gains. Some jurisdictions impose different rates or levels of capital gains taxation based on the length of time the asset was held. [edit]Corporate tax Main article: Corporate tax
Corporate tax refers to income, capital, net worth, or other taxes imposed on corporations. Rates of tax and the taxable base for corporations may differ from those for individuals or other taxable persons. [edit]Social security contributions Many countries provide publicly funded retirement or health care systems.[9] In connection with these systems, the country typically requires employers and/or employees to make compulsory payments. [10] These payments are often computed by reference to wages or earnings from self employment. Tax rates are generally fixed, but a different rate may be imposed on employers than on employees.[11] Some systems provide an upper limit on earnings subject to the tax. A few systems provide that the tax is payable only on wages above a particular amount. Such upper or lower limits may apply for retirement but not health care components of the tax. [edit]Taxes on payroll or workforce Unemployment and similar taxes are often imposed on employers based on total payroll. These taxes may be imposed in both the country and subcountry levels.[12] [edit]Taxes on property Recurrent [property taxes] may be imposed on immovable property (real property) and some classes of movable property. In addition, recurrent taxes may be imposed on net wealth of individuals or corporations.[13] Many jurisdictions impose estate tax, gift tax or other inheritance taxes on property at death or gift transfer. Some jurisdictions impose taxes on financial or capital transactions. [edit]Property tax Main article: Property tax A property tax (or millage tax) is an ad valorem tax levy on the value of property that the owner of the property is required to pay to a government in which the property is situated. Multiple jurisdictions may tax the same
property. There are three general varieties of property: land, improvements to land (immovable man-made things, e.g. buildings) and personal property (movable things). Real estate or realty is the combination of land and improvements to land. Property taxes are usually charged on a recurrent basis (e.g., yearly). A common type of property tax is an annual charge on the ownership of real estate, where the tax base is the estimated value of the property. For a period of over 150 years from 1695 a window tax was levied in England, with the result that one can still see listed buildings with windows bricked up in order to save their owners money. A similar tax on hearths existed in France and elsewhere, with similar results. The two most common type of event driven property taxes are stamp duty, charged upon change of ownership, and inheritance tax, which is imposed in many countries on the estates of the deceased. In contrast with a tax on real estate (land and buildings), a land value tax is levied only on the unimproved value of the land ("land" in this instance may mean either the economic term, i.e., all natural resources, or the natural resources associated with specific areas of the Earth's surface: "lots" or "land parcels"). Proponents of land value tax argue that it is economically justified, as it will not deter production, distort market mechanisms or otherwise create deadweight losses the way other taxes do.[14] When real estate is held by a higher government unit or some other entity not subject to taxation by the local government, the taxing authority may receive a payment in lieu of taxes to compensate it for some or all of the foregone tax revenue. In many jurisdictions (including many American states), there is a general tax levied periodically on residents who own personal property (personalty) within the jurisdiction. Vehicle and boat registration fees are subsets of this kind of tax. The tax is often designed with blanket coverage and large exceptions for things like food and clothing. Household goods are often
exempt when kept or used within the household.[15] Any otherwise nonexempt object can lose its exemption if regularly kept outside the household.[15] Thus, tax collectors often monitor newspaper articles for stories about wealthy people who have lent art to museums for public display, because the artworks have then become subject to personal property tax.[15] If an artwork had to be sent to another state for some touchups, it may have become subject to personal property tax in that state as well.[15] [edit]Inheritance tax Main article: Inheritance tax Inheritance tax, estate tax, and death tax or duty are the names given to various taxes which arise on the death of an individual. In United States tax law, there is a distinction between an estate tax and an inheritance tax: the former taxes the personal representatives of the deceased, while the latter taxes the beneficiaries of the estate. However, this distinction does not apply in other jurisdictions; for example, if using this terminology UK inheritance tax would be an estate tax. [edit]Expatriation tax Main article: Expatriation tax An Expatriation Tax is a tax on individuals who renounce their citizenship or residence. The tax is often imposed based on a deemed disposition of all the individual's property. One example is theUnited States under the American Jobs Creation Act, where any individual who has a net worth of $2 million or an average income-tax liability of $127,000 who renounces his or her citizenship and leaves the country is automatically assumed to have done so for tax avoidance reasons and is subject to a higher tax rate.[16] [edit]Transfer tax Main article: Transfer tax
Historically, in many countries, a contract needed to have a stamp affixed to make it valid. The charge for the stamp was either a fixed amount or a percentage of the value of the transaction. In most countries the stamp has been abolished but stamp duty remains. Stamp duty is levied in the UK on the purchase of shares and securities, the issue of bearer instruments, and certain partnership transactions. Its modern derivatives, stamp duty reserve tax and stamp duty land tax, are respectively charged on transactions involving securities and land. Stamp duty has the effect of discouraging speculative purchases of assets by decreasing liquidity. In the United States transfer tax is often charged by the state or local government and (in the case of real property transfers) can be tied to the recording of the deed or other transfer documents. [edit]Wealth (net worth) tax Main article: Wealth tax Some countries' governments will require declaration of the tax payers' balance sheet (assets and liabilities), and from that exact a tax on net worth (assets minus liabilities), as a percentage of the net worth, or a percentage of the net worth exceeding a certain level. The tax may be levied on "natural" or legal "persons". An example is France's ISF. [edit]Taxes on goods and services [edit]Value added tax (Goods and Services Tax) Main article: Value added tax A value added tax (VAT), also known as Goods and Services Tax (G.S.T), Single Business Tax, or Turnover Tax in some countries, applies the equivalent of a sales tax to every operation that creates value. To give an example, sheet steel is imported by a machine manufacturer. That manufacturer will pay the VAT on the purchase price, remitting that amount to the government. The manufacturer will then transform the steel into a machine, selling the machine for a higher price to a wholesale distributor.
The manufacturer will collect the VAT on the higher price, but will remit to the government only the excess related to the "value added" (the price over the cost of the sheet steel). The wholesale distributor will then continue the process, charging the retail distributor the VAT on the entire price to the retailer, but remitting only the amount related to the distribution mark-up to the government. The last VAT amount is paid by the eventual retail customer who cannot recover any of the previously paid VAT. For a VAT and sales tax of identical rates, the total tax paid is the same, but it is paid at differing points in the process. VAT is usually administrated by requiring the company to complete a VAT return, giving details of VAT it has been charged (referred to as input tax) and VAT it has charged to others (referred to as output tax). The difference between output tax and input tax is payable to the Local Tax Authority. If input tax is greater than output tax the company can claim back money from the Local Tax Authority. [edit]Sales taxes Main article: Sales tax Sales taxes are levied when a commodity is sold to its final consumer. Retail organizations contend that such taxes discourage retail sales. The question of whether they are generally progressive or regressive is a subject of much current debate. People with higher incomes spend a lower proportion of them, so a flat-rate sales tax will tend to be regressive. It is therefore common to exempt food, utilities and other necessities from sales taxes, since poor people spend a higher proportion of their incomes on these commodities, so such exemptions make the tax more progressive. This is the classic "You pay for what you spend" tax, as only those who spend money on non-exempt (i.e. luxury) items pay the tax. A small number of U.S. states rely entirely on sales taxes for state revenue, as those states do not levy a state income tax. Such states tend to have a moderate to large amount of tourism or inter-state travel that occurs within
their borders, allowing the state to benefit from taxes from people the state would otherwise not tax. In this way, the state is able to reduce the tax burden on its citizens. The U.S. states that do not levy a state income tax are Alaska, Tennessee, Florida, Nevada, South Dakota, Texas,[17] Washington state, and Wyoming. Additionally, New Hampshire and Tennessee levy state income taxes only on dividends and interest income. Of the above states, only Alaska and New Hampshire do not levy a state sales tax. Additional information can be obtained at the Federation of Tax Administrators website. In the United States, there is a growing movement[18] for the replacement of all federal payroll and income taxes (both corporate and personal) with a national retail sales tax and monthly tax rebate to households of citizens and legal resident aliens. The tax proposal is named FairTax. In Canada, the federal sales tax is called the Goods and Services tax (GST) and now stands at 5%. The provinces of British Columbia, Saskatchewan, Manitoba, and Prince Edward Island also have a provincial sales tax [PST]. The provinces of Nova Scotia, New Brunswick, Newfoundland & Labrador, and Ontario have harmonized their provincial sales taxes with the GST—Harmonized Sales Tax [HST], and thus is a full VAT. The province of Quebec collects the Quebec Sales Tax [QST] which is based on the GST with certain differences. Most businesses can claim back the GST, HST and QST they pay, and so effectively it is the final consumer who pays the tax. [edit]Excises Main article: Excise Unlike an ad valorem, an excise is not a function of the value of the product being taxed. Excise taxes are based on the quantity, not the value, of product purchased. For example, in the United States, the Federal government imposes an excise tax of 18.4 cents per U.S. gallon (4.86¢/L) of gasoline, while state governments levy an additional 8 to 28 cents per U.S. gallon. Excises on particular commodities are frequently hypothecated. For example, a fuel excise (use tax) is often used to pay for public transportation,
especially roads and bridges and for the protection of the environment. A special form of hypothecation arises where an excise is used to compensate a party to a transaction for alleged uncontrollable abuse; for example, a blank media tax is a tax on recordable media such as CD-Rs, whose proceeds are typically allocated to copyright holders. Critics charge that such taxes blindly tax those who make legitimate and illegitimate usages of the products; for instance, a person or corporation using CD-R's for data archival should not have to subsidize the producers of popular music. Excises (or exemptions from them) are also used to modify consumption patterns (social engineering). For example, a high excise is used to discourage alcohol consumption, relative to other goods. This may be combined with hypothecation if the proceeds are then used to pay for the costs of treating illness caused by alcohol abuse. Similar taxes may exist on tobacco, pornography, etc., and they may be collectively referred to as "sin taxes". A carbon tax is a tax on the consumption of carbon-based nonrenewable fuels, such as petrol, diesel-fuel, jet fuels, and natural gas. The object is to reduce the release of carbon into the atmosphere. In the United Kingdom, vehicle excise duty is an annual tax on vehicle ownership. [edit]Tariff Main article: Tariff An import or export tariff (also called customs duty or impost) is a charge for the movement of goods through a political border. Tariffs discourage trade, and they may be used by governments to protect domestic industries. A proportion of tariff revenues is often hypothecated to pay government to maintain a navy or border police. The classic ways of cheating a tariff are smuggling or declaring a false value of goods. Tax, tariff and trade rules in modern times are usually set together because of their common impact on industrial policy, investment policy, and agricultural policy. A trade bloc is a group of allied countries agreeing to minimize or eliminate tariffs against trade with each other, and possibly to impose protective tariffs on imports
from outside the bloc. Acustoms union has a common external tariff, and the participating countries share the revenues from tariffs on goods entering the customs union. [edit]Other taxes [edit]License fees Occupational taxes or license fees may be imposed on businesses or individuals engaged in certain businesses. Many jurisdictions impose a tax on vehicles. [edit]Poll tax Main article: Poll tax A poll tax, also called a per capita tax, or capitation tax, is a tax that levies a set amount per individual. It is an example of the concept of fixed tax. One of the earliest taxes mentioned in the Bibleof a half-shekel per annum from each adult Jew (Ex. 30:11-16) was a form of poll tax. Poll taxes are administratively cheap because they are easy to compute and collect and difficult to cheat. Economists have considered poll taxes economically efficient because people are presumed to be in fixed supply. However, poll taxes are very unpopular because poorer people pay a higher proportion of their income than richer people. In addition, the supply of people is in fact not fixed over time: on average, couples will choose to have fewer children if a poll tax is imposed.[19][not in citation given] The introduction of a poll tax in medieval England was the primary cause of the 1381 Peasants' Revolt. Scotland was the first to be used to test the new poll tax in 1989 with England and Wales in 1990. The change from a progressive local taxation based on property values to a single-rate form of taxation regardless of ability to pay (the Community Charge, but more popularly referred to as the Poll Tax), led to widespread refusal to pay and to incidents of civil unrest, known colloquially as the 'Poll Tax Riots'. [edit]Other
Some types of taxes have been proposed but not actually adopted in any major jurisdiction. These include:
Bank tax Financial transaction taxes including currency transaction taxes
[edit]Descriptive labels given some taxes [edit]Ad valorem Main article: Ad valorem An ad valorem tax is one where the tax base is the value of a good, service, or property. Sales taxes, tariffs, property taxes, inheritance taxes, and value added taxes are different types of ad valorem tax. An ad valorem tax is typically imposed at the time of a transaction (sales tax or value added tax (VAT)) but it may be imposed on an annual basis (property tax) or in connection with another significant event (inheritance tax or tariffs). An alternative to ad valorem taxation is an excise tax, where the tax base is the quantity of something, regardless of its price. [edit]Consumption tax Main article: Consumption tax Consumption tax refers to any tax on non-investment spending, and can be implemented by means of a sales tax, consumer value added tax, or by modifying an income tax to allow for unlimited deductions for investment or savings. [edit]Environmental tax See also: Ecotax, Gas Guzzler Tax, and Polluter pays principle This includes natural resources consumption tax, greenhouse gas tax (Carbon tax), "sulfuric tax", and others. The stated purpose is to reduce the environmental impact by repricing. [edit]Fees and effective taxes
Governments may charge user fees, tolls, or other types of assessments in exchange of particular goods, services, or use of property. These are generally not considered taxes, as long as they are levied as payment for a direct benefit to the individual paying.[20] Such fees include:
Tolls: a fee charged to travel via a road, bridge, tunnel, canal, waterway or other transportation facilities. Historically tolls have been used to pay for public bridge, road and tunnel projects. They have also been used in privately constructed transport links. The toll is likely to be a fixed charge, possibly graduated for vehicle type, or for distance on long routes.
User fees, such as those charged for use of parks or other government owned facilities.
Ruling fees charged by governmental agencies to make determinations in particular situations.
Some scholars refer to certain economic effects as taxes, though they are not levies imposed by governments. These include:
Inflation tax: the economic disadvantage suffered by holders of cash and cash equivalents in one denomination of currency due to the effects of expansionary monetary policy[21]
Financial repression: Government policies such as interest rate caps on government debt, financial regulations such as reserve requirements and capital controls, and barriers to entry in markets where the government owns or controls businesses.[22]
[edit]History
Egyptian peasants seized for non-payment of taxes. (Pyramid Age) The first known system of taxation was in Ancient Egypt around 3000 BC 2800 BC in the first dynasty of the Old Kingdom.[23] The earliest and most widespread form of taxation was the corvée and tithe. The corvée was forced labour provided to the state by peasants too poor to pay other forms of taxation (labour in ancient Egyptian is a synonym for taxes).[24] Records from the time document that the pharaoh would conduct a biennial tour of the kingdom, collecting tithes from the people. Other records are granary receipts on limestone flakes and papyrus.[25] Early taxation is also described in the Bible. In Genesis (chapter 47, verse 24 - the New International Version), it states "But when the crop comes in, give a fifth of it to Pharaoh. The other four-fifths you may keep as seed for the fields and as food for yourselves and your households and your children". Joseph was telling the people of Egypt how to divide their crop, providing a portion to the Pharaoh. A share (20%) of the crop was the tax. Later, in the Persian Empire, a regulated and sustainable tax system was introduced by Darius I the Great in 500 BC;[26] the Persiansystem of taxation was tailored to each Satrapy (the area ruled by a Satrap or provincial governor). At differing times, there were between 20 and 30 Satrapies in the Empire and each was assessed according to its supposed productivity. It was the responsibility of the Satrap to collect the due amount and to send it to the emperor, after deducting his expenses (the expenses and the power of deciding precisely how and from whom to raise the money in the province, offer maximum opportunity for rich pickings). The quantities demanded from the various provinces gave a vivid picture of their economic potential. For instance, Babylon was assessed for the highest amount and for a startling mixture of commodities; 1,000 silver talents and four months supply of food for the army. India, a province fabled for its gold, was to supply gold dust equal in value to the very large amount of 4,680 silver talents. Egypt was known for the wealth of its crops; it was to be the granary of the Persian
Empire (and, later, of the Roman Empire) and was required to provide 120,000 measures of grain in addition to 700 talents of silver. This was exclusively a tax levied on subject peoples. Persians and Medes paid no tax, but, they were liable at any time to serve in the army.[27] The Rosetta Stone, a tax concession issued by Ptolemy V in 196 BC and written in three languages "led to the most famous decipherment in history— the cracking of hieroglyphics".[28] In India, Islamic rulers imposed jizya (a poll tax on non-Muslims) starting in the 11th century. It was abolished by Akbar. [edit]Taxation levels Numerous records of government tax collection in Europe since at least the 17th century are still available today. But taxation levels are hard to compare to the size and flow of the economy sinceproduction numbers are not as readily available, however. Government expenditures and revenue in France during the 17th century went from about 24.30 million livres in 1600-10 to about 126.86 million livres in 1650-59 to about 117.99 million livres in 170010 when government debt had reached 1.6 billion livres. In 1780–89, it reached 421.50 million livres.[29] Taxation as a percentage of production of final goods may have reached 15%–20% during the 17th century in places such as France, the Netherlands, and Scandinavia. During the war-filled years of the eighteenth and early nineteenth century, tax rates in Europe increased dramatically as war became more expensive and governments became more centralized and adept at gathering taxes. This increase was greatest in England, Peter Mathias and Patrick O'Brien found that the tax burden increased by 85% over this period. Another study confirmed this number, finding that per capita tax revenues had grown almost sixfold over the eighteenth century, but that steady economic growth had made the real burden on each individual only double over this period before the industrial revolution. Average tax rates were higher in Britain than France the years before the French Revolution, twice in per capita income comparison, but
they were mostly placed on international trade. In France, taxes were lower but the burden was mainly on landowners, individuals, and internal trade and thus created far more resentment.[30] Taxation as a percentage of GDP in 2003 was 56.1% in Denmark, 54.5% in France, 49.0% in the Euro area, 42.6% in the United Kingdom, 35.7% in the United States, 35.2% in Ireland, and among all OECD members an average of 40.7%.[31][32] [edit]Forms of taxation In monetary economies prior to fiat banking, a critical form of taxation was seigniorage, the tax on the creation of money. Other obsolete forms of taxation include:
Scutage, which is paid in lieu of military service; strictly speaking, it is a commutation of a non-tax obligation rather than a tax as such but functioning as a tax in practice.
Tallage, a tax on feudal dependents. Tithe, a tax-like payment (one tenth of one's earnings or agricultural produce), paid to the Church (and thus too specific to be a tax in strict technical terms). This should not be confused with the modern practice of the same name which is normally voluntary.
(Feudal) aids, a type of tax or due that was paid by a vassal to his lord during feudal times.
Danegeld, a medieval land tax originally raised to pay off raiding Danes and later used to fund military expenditures.
Carucage, a tax which replaced the danegeld in England. Tax farming, the principle of assigning the responsibility for tax revenue collection to private citizens or groups.
Socage, a feudal tax system based on land rent. Burgage, a feudal tax system based on land rent.
Some principalities taxed windows, doors, or cabinets to reduce consumption of imported glass and hardware. Armoires, hutches, and wardrobes were employed to evade taxes on doors and cabinets. In some circumstances, taxes are also used to enforce public policy like congestion charge (to cut road traffic and encourage public transport) in London. In Tsarist Russia, taxes were clamped on beards. Today, one of the most-complicated taxation systems worldwide is in Germany. Three quarters of the world's taxation literature refers to the German system.[citation needed]There are 118 laws, 185 forms, and 96,000 regulations, spending €3.7 billion to collect the income tax. Today, governments in more advanced economies in (i.e. Europe and North America) tend to rely more on direct taxes, while developing economies (i.e. India and several African countries) rely more on indirect taxes. [edit]Economic effects In economic terms, taxation transfers wealth from households or businesses to the government of a nation. The side-effects of taxation and theories about how best to tax are an important subject in microeconomics. Taxation is almost never a simple transfer of wealth. Economic theories of taxation approach the question of how to maximize economic welfare through taxation. [edit]Tax incidence Main article: Tax incidence See also: Effect of taxes and subsidies on price Law establishes from whom a tax is collected. In many countries, taxes are imposed on business (such as corporate taxes or portions of payroll taxes). However, who ultimately pays the tax (the tax "burden") is determined by the marketplace as taxes become embedded into production costs. Economic theory suggests that the economic effect of tax does not necessarily fall at the point where it is legally levied. For instance, a tax on employment paid by
employers will impact on the employee, at least in the long run. The greatest share of the tax burden tends to fall on the most inelastic factor involved—the part of the transaction which is affected least by a change in price. So, for instance, a tax on wages in a town will (at least in the long run) affect property-owners in that area.
Diagram illustrating taxes effect Depending on how quantities supplied and demanded vary with price (the "elasticities" of supply and demand), a tax can be absorbed by the seller (in the form of lower pre-tax prices), or by the buyer (in the form of higher posttax prices). If the elasticity of supply is low, more of the tax will be paid by the supplier. If the elasticity of demand is low, more will be paid by the customer; and, contrariwise for the cases where those elasticities are high. If the seller is a competitive firm, the tax burden is distributed over the factors of production depending on the elasticities thereof; this includes workers (in the form of lower wages), capital investors (in the form of loss to shareholders), landowners (in the form of lower rents), entrepreneurs (in the form of lower wages of superintendence) and customers (in the form of higher prices). To show this relationship, suppose that the market price of a product is $1.00, and that a $0.50 tax is imposed on the product that, by law, is to be collected from the seller. If the product has an elastic demand, a greater portion of the tax will be absorbed by the seller. This is because goods with elastic demand cause a large decline in quantity demanded for a small
increase in price. Therefore in order to stabilize sales, the seller absorbs more of the additional tax burden. For example, the seller might drop the price of the product to $0.70 so that, after adding in the tax, the buyer pays a total of $1.20, or $0.20 more than he did before the $0.50 tax was imposed. In this example, the buyer has paid $0.20 of the $0.50 tax (in the form of a post-tax price) and the seller has paid the remaining $0.30 (in the form of a lower pre-tax price).[33] [edit]Reduced economic welfare Most taxes have side effects that reduce economic welfare, either by mandating unproductive labor (compliance costs) or by creating distortions to economic incentives (deadweight loss andperverse incentives). [edit]Cost of compliance Although governments must spend money on tax collection activities, some of the costs, particularly for keeping records and filling out forms, are borne by businesses and by private individuals. These are collectively called costs of compliance. More complex tax systems tend to have higher compliance costs. This fact can be used as the basis for practical or moral arguments in favor of tax simplification (such as the FairTax or OneTax, and some flat tax proposals). [edit]Deadweight costs of taxation In the absence of negative externalities, the introduction of taxes into a market reduces economic efficiency by causing deadweight loss. In a competitive market the price of a particular economic good adjusts to ensure that all trades which benefit both the buyer and the seller of a good occur. The introduction of a tax causes the price received by the seller to be less than the cost to the buyer by the amount of the tax. This causes fewer transactions to occur, which reduces economic welfare; the individuals or businesses involved are less well off than before the tax. The tax burden and the amount of deadweight cost is dependent on the elasticity of supply and demand for the good taxed.
Most taxes—including income tax and sales tax—can have significant deadweight costs. The only way to avoid deadweight costs in an economy that is generally competitive is to refrain from taxes that change economic incentives. Such taxes include the land value tax,[34] where the tax is on a good in completely inelastic supply, a lump sum tax such as a poll tax (head tax) which is paid by all adults regardless of their choices. Arguably a windfall profits tax which is entirely unanticipated can also fall into this category. [edit]Perverse incentives Complexity of the tax code in developed economies offer perverse tax incentives. The more details of tax policy there are, the more opportunities for legal tax avoidance and illegal tax evasion. These not only result in lost revenue, but involve additional costs: for instance, payments made for tax advice are essentially deadweight costs because they add no wealth to the economy.Perverse incentives also occur because of non-taxable 'hidden' transactions; for instance, a sale from one company to another might be liable for sales tax, but if the same goods were shipped from one branch of a corporation to another, no tax would be payable. To address these issues, economists often suggest simple and transparent tax structures which avoid providing loopholes. Sales tax, for instance, can be replaced with a value added tax which disregards intermediate transactions. [edit]Reduced production If a tax is paid on outsourced services that is not also charged on services performed for oneself, then it may be cheaper to perform the services oneself than to pay someone else—even considering losses in economic efficiency.[35][36] For example, suppose jobs A and B are both valued at $1 on the market. And suppose that because of your unique abilities, you can do job A twice over (100% extra output) in the same effort as it would take you to do job B. But job B is the one that you need done right now. Under perfect division of
labor, you would do job A and somebody else would do job B. Your unique abilities would always be rewarded. Income taxation has the worst effect on division of labor in the form of barter. Suppose that the person doing job B is actually interested in having job A done for him. Now suppose you could amazingly do job A four times over, selling half your work on the market for cash just to pay your tax bill. The other half of the work you do for somebody who does job B twice over but he has to sell off half to pay his tax bill. You're left with one unit of job B, but only if you were 400% as productive doing job A! In this case of 50% tax on barter income, anything less than 400% productivity will cause the division of labor to fail. In summary, depending on the situation a 50% tax rate can cause the division of labor to fail even where productivity gains of up to 300% would have resulted. Even a mere 30% tax rate can negate the advantage of a 100% productivity gain.[37] [edit]Increased economic welfare [edit]Pigovian taxes The existence of a tax can increase economic efficiency in some cases. If there is a negative externality associated with a good, meaning that it has negative effects not felt by the consumer, then a free market will trade too much of that good. By taxing the good, the government can increase overall welfare as well as raising revenue. This type of tax is called a Pigovian tax, after economist Arthur Pigou. Possible Pigovian taxes include those on polluting fuels (like petrol), taxes on goods which incur public healthcare costs (such as alcohol or tobacco), and charges for existing 'free' public goods (like congestion charging) are another possibility. [edit]Reduced inequality
In theory, progressive taxation may have the effect of reducing economic inequality. This effect occurs even when the tax revenue isn't redistributed. [edit]Views on taxation [edit]Support for taxation Main article: Social contract Every tax, however, is, to the person who pays it, a badge, not of slavery, but of liberty. - Adam Smith (1776), Wealth of Nations[38] According to most political philosophies, taxes are justified as they fund activities that are necessary and beneficial to society. Additionally,progressive taxation can be used to reduce economic inequality in a society. According to this view, taxation in modern nationstates benefit the majority of the population and social development.[39] A common presentation of this view, paraphrasing various statements by Oliver Wendell Holmes, Jr. is "Taxes are the price of civilization".[40] It can also be argued that in a democracy, because the government is the party performing the act of imposing taxes, society as a whole decides how the tax system should be organized.[41] The American Revolution's "No taxation without representation" slogan implied this view. For traditional conservatives, the payment of taxation is justified as part of the general obligations of citizens to obey the law and support established institutions. The conservative position is encapsulated in perhaps the most famous adage of public finance, "An old tax is a good tax".[42] Conservatives advocate the "fundamental conservative premise that no one should be excused from paying for government, lest they come to believe that government is costless to them with the certain consequence that they will demand more government 'services'.".[43] Social democrats generally favor higher levels of taxation to fund public provision of a wide range of services such as universal health care and education, as well as the provision of a
range of welfare benefits.[44] As argued by Tony Crosland and others, the capacity to tax income from capital is a central element of the social democratic case for a mixed economy as against Marxist arguments for comprehensive public ownership of capital.[citation needed] Manylibertarians recommend a minimal level of taxation in order to
maximize the protection of liberty.[citation needed] Compulsory taxation of individuals, such as income tax, is often justified on grounds including territorial sovereignty, and the social contract. Defenders of business taxation argue that it is an efficient method of taxing income that ultimately flows to individuals, or that separate taxation of business is justified on the grounds that commercial activity necessarily involves use of publicly established and maintained economic infrastructure, and that businesses are in effect charged for this use.[45] Georgist economists argue that all of the economic rent collected from natural resources (land, mineral extraction, fishing quotas, etc.) is unearned income, and belongs to the community rather than any individual. They advocate a high tax (the "Single Tax") on land and other natural resources to return this unearned income to the state, but no other taxes. [edit]Opposition to taxation Main articles: Tax noncompliance and Taxation as theft Because payment of tax is compulsory and enforced by the legal system, some political philosophies view taxation as theft (or as slavery, or as a violation of property rights), or tyranny, accusing the government of levying taxes via force and coercive means.[46] Voluntaryists, individualist anarchists, objectivists, anarcho-capitalists, and libertarians see taxation as government aggression (see zero aggression principle). The view that democracy legitimizes taxation is rejected by those who argue that all forms of government, including laws chosen by democratic means, are fundamentally oppressive. According to Ludwig von Mises, "society as a whole" should not make such decisions, due to methodological
individualism.[47] Libertarian opponents of taxation claim that governmental protection, such as police and defense forces might be replaced by market alternatives such as private defense agencies, arbitration agencies or voluntary contributions.[48]Walter E. Williams, professor of economics at George Mason University, stated "Government income redistribution programs produce the same result as theft. In fact, that's what a thief does; he redistributes income. The difference between government and thievery is mostly a matter of legality."[49] Taxation has also been opposed by communists and socialists. Karl Marx assumed that taxation would be unnecessary after the advent of communism and looked forward to the "withering away of the state". In socialist economies such as that of China, taxation played a minor role, since most government income was derived from the ownership of enterprises, and it was argued by some that taxation was not necessary.[50] While the morality of taxation is sometimes questioned, most arguments about taxation revolve around the degree and method of taxation and associatedgovernment spending, not taxation itself. [edit]Theories on taxation [edit]Laffer curve Main article: Laffer curve In economics, the Laffer curve is a theoretical representation of the relationship between government revenue raised by taxation and all possible rates of taxation. It is used to illustrate the concept of taxable income elasticity (that taxable income will change in response to changes in the rate of taxation). The curve is constructed by thought experiment. First, the amount of tax revenue raised at the extreme tax rates of 0% and 100% is considered. It is clear that a 0% tax rate raises no revenue, but the Laffer curve hypothesis is that a 100% tax rate will also generate no revenue because at such a rate there is no longer any incentive for a rational taxpayer to earn any income, thus the revenue raised will be 100% of nothing. If both
a 0% rate and 100% rate of taxation generate no revenue, it follows from the extreme value theorem that there must exist at least one rate in between where tax revenue would be a maximum. The Laffer curve is typically represented as a graph which starts at 0% tax, zero revenue, rises to a maximum rate of revenue raised at an intermediate rate of taxation and then falls again to zero revenue at a 100% tax rate. One potential result of the Laffer curve is that increasing tax rates beyond a certain point will become counterproductive for raising further tax revenue. A hypothetical Laffer curve for any given economy can only be estimated and such estimates are sometimes controversial. The New Palgrave Dictionary of Economics reports that estimates of revenue-maximizing tax rates have varied widely, with a mid-range of around 70%.[51] [edit]Optimal tax Main article: Optimal tax Most governments take revenue which exceeds that which can be provided by non-distortionary taxes or through taxes which give a double dividend. Optimal taxation theory is the branch of economics that considers how taxes can be structured to give the least deadweight costs, or to give the best outcomes in terms of social welfare. The Ramsey problem deals with minimizing deadweight costs. Because deadweight costs are related to the elasticity of supply and demand for a good, it follows that putting the highest tax rates on the goods for which there is most inelastic supply and demand will result in the least overall deadweight costs. Some economists sought to integrate optimal tax theory with the social welfare function, which is the economic expression of the idea that equality is valuable to a greater or lesser extent. If individuals experience diminishing returns from income, then the optimum distribution of income for society involves a progressive income tax. Mirrlees optimal income tax is a detailed theoretical model of the optimum progressive income tax along these lines. Over the last years the validity of the theory of optimal taxation was discussed by many political
economists. Canegrati (2007) demonstrated that if we move from the assumption that governments do not maximise the welfare of society but the probability of winning elections, the tax rates in equilibrium are lower for the most powerful groups of society, instead of being the lowest for the poorest as in the optimal theory of direct taxation developed by Atkinson and Joseph Stiglitz. See Canegrati's formulae. [edit]See also Rwanda personal Income Tax Personal income tax rates in Rwanda are progressive to 30%. Basis – Residents are taxed on worldwide income; nonresidents are taxed only on Rwandan-source income. Foreign-source income derived by residents is subject to personal income tax in the same way as Rwandansource income. Residence – An individual is resident in Rwanda if he/she has a permanent residence or habitual domicile in Rwanda, if he/she stays in Rwanda for more than 183 days in a 12- month period or he/she is a Rwandan representing Rwanda abroad. Tax Filing status – No specific provisions apply. Taxable income – Employment income, including most employment benefits, is taxable. Taxation of Capital gains – Capital gains are taxable as ordinary income at the normal personal income tax rate. Tax Deductions and tax allowances – Tax deductions are available for such
items as retirement contributions made by the employer to the Rwanda Social Security Fund, pension payments made under the state social security system and some retirement contributions the employer pays for the employee and contributions by the employee.
Other taxes on individuals: Capital duty – No Stamp duty – No Capital acquisitions tax – No Net wealth/net worth tax – No Net wealth tax / net worth tax Inheritance/estate tax – No Inheritance tax / estate tax Real property tax – Tax is paid to municipal authorities and calculated according to the location and utilisation of the property. Social security contributions – The total contribution to the Rwanda Social Security Fund is 8% (5% by the employer and 3% by the employee). Rwanda Tax year – Rwanda tax year is the calendar year, although the taxpayer may request a different 12-month period. Filing of tax and tax payment – Tax on employment income is withheld by the employer under the PAYE system and remitted to the tax authorities. Penalties – Penalties, including fines and interest, apply for failure to comply. Rwanda Corporate Tax Company tax rate in Rwanda is 30% of taxable income with some discounts for registered investors based on the number of employees and the amount of income derived from the export of goods and services.
Residence – A company is resident if it is established according to Rwandan law or if its headquarters are in Rwanda. Basis – Residents are taxed on worldwide income; nonresidents are taxed on Rwandan source income. Foreign-source income derived by residents is subject to corporation tax in the same way as Rwandan-source income. Taxable income – Corporation tax is imposed on a company’s total income after deduction of normal business expenses. Taxation of dividends – Dividends received by a Rwandan-resident company from another Rwandan company are exempt from corporation tax; other dividends are subject to a withholding tax of 15%. Taxation of Capital gains – Capital gains are taxable as ordinary income at the standard rate of corporation tax. Losses – Losses may be carried forward for 5 tax periods. The carryback of losses is not permitted. Surtax – No Alternative minimum tax – No Foreign tax credit – Foreign tax paid may be credited against Rwandan tax on the same income but the credit is limited to the amount of Rwandan tax payable on the foreign income. Participation exemption – A company that transfers its assets to another
company is exonerated from tax in respect of capital gains and losses realised on the participation. A "participation" for these purposes means: a merger of 2 or more resident companies; the purchase or takeover of at least 50% of the shares in a resident company; the purchase of 50% or more of the assets and liabilities by a resident from another resident company; or the splitting of a resident company into 2 or more resident companies. Holding company regime – See under "Participation exemption". Tax Incentives – An investment allowance of 40% of the invested amount in new or used assets is available but the amount invested must be equal to RWF 30 million and the business assets must be held for at least 3 tax periods. The investment allowance is 50% for investment in rural areas and special activities as provided by the Investment Authority.
Withholding tax: Dividends – Dividends paid to another Rwandan company are exempt. Dividends paid to a nonresident or an individual are subject to a 15% withholding tax unless the rate is reduced under a tax treaty. Interest – Interest paid to a nonresident is subject to a 15% withholding tax unless the rate is reduced under a tax treaty. Royalties – Royalties paid to a nonresident are subject to a 15% withholding tax unless the rate is reduced under a tax treaty. Branch remittance tax – No
Other taxes on corporations: Capital duty – No Payroll tax – No Real property tax – No Stamp duty – No Transfer tax – No Social security contributions – The total contribution to the Rwanda Social Security Fund is 8% (5% by the employer and 3% by the employee). Other – A presumptive tax of 4% of annual turnover is applicable to taxpayers with an annual turnover less than RWF 20 million that opt for the regime.
Anti-avoidance rules: Transfer pricing – When independent parties deal with one another, the terms of trade are determined by market forces and may be presumed to be at arm’s length. However, for related party transactions, determination of the arm’s length price requires a comparison of the conditions in a "controlled transaction" against the conditions in a related party or uncontrolled transaction. Thin capitalisation – Interest on a loan between related parties that exceeds 4 times the amount of equity may not be deducted from taxable income unless the taxpayer is an individual. This rule does not apply to commercial banks and insurance companies.
Controlled foreign companies – No Disclosure requirements – No Rwanda Tax year – Rwanda tax year is the calendar year, although the taxpayer may request a different 12-month period. Consolidated returns – No consolidated tax returns allowed in Rwanda. Tax Filing requirements – Rwanda operates a self-assessment regime. Advance corporate tax is payable in 3 instalments. The tax return must be filed within 3 months of the calendar year end. Penalties – Interest is imposed for late payment of tax (0.83% per month) and fines and other penalties are imposed for late payment and understatements.
Rwanda vat (Value Added Tax) rates The standard VAT rate in Rwanda is 18%, with exemptions and zero rating available in certain cases. Taxable transactions – VAT is imposed on the sale of goods and the provision of services. VAT Registration – The registration threshold for VAT purposes is RWF 20 million of annual turnover. Voluntary registration is possible for taxpayers with turnover under the threshold.
Filing and VAT payment – Filing and payment occur on a monthly basis. Source: www.taxrates.cc
What is Tax ? Meaning and Definition ↓
The tax revenue is the most important source of public revenue. A tax is a compulsory payment levied by the government on individuals or companies to meet the expenditure which is required for public welfare. According to Hugh Dalton, "a tax is a compulsory contribution imposed by a public authority, irrespective of the exact amount of service rendered to the taxpayer in return, and not imposed as penalty for any legal offence."
What are Canons of Taxation ?
Canons of Taxation are the main basic principles (i.e. rules) set to build a 'Good Tax System'. Canons of Taxation were first originally laid down by economist Adam Smith in his famous book "The Wealth of Nations". In this book, Adam smith only gave four canons of taxation. These original four canons are now known as the "Original or Main Canons of Taxation". As the time changed, governance expanded and became much more complex than what it was at the Adam Smith's time. Soon a need was felt by modern economists to expand Smith's principles of taxation and as a response they put forward some additional modern canons of taxation.
Adam Smith's Four Main Canons of Taxation ↓ A good tax system is one which is designed on the basis of an appropriate set of principles (rules). The tax system should strike a balance between the interest of the taxpayer and that of tax authorities. Adam Smith was the first economist to develop a list of Canons of Taxation. These canons are still regarded as characteristics or features of a good tax system. Adam Smith gave following four important canons of taxation.
1. Canon of Equity
The principle aims at providing economic and social justice to the people. According to this principle, every person should pay to the government depending upon his ability to pay. The rich class people should pay higher taxes to the government, because without the protection of the government authorities (Police, Defence, etc.) they could not have earned and enjoyed their income. Adam Smith argued that the taxes should be proportional to income, i.e., citizens should pay the taxes in proportion to the revenue which they respectively enjoy under the protection of the state.
2. Canon of Certainty
According to Adam Smith, the tax which an individual has to pay should be certain, not arbitrary. The tax payer should know in advance how much tax he has to pay, at what time he has to pay the tax, and in what form the tax is to be paid to the government. In other words, every tax should satisfy the canon of certainty. At the same time a good
tax system also ensures that the government is also certain about the amount that will be collected by way of tax.
3. Canon of Convenience
The mode and timing of tax payment should be as far as possible, convenient to the tax payers. For example, land revenue is collected at time of harvest income tax is deducted at source. Convenient tax system will encourage people to pay tax and will increase tax revenue.
4. Canon of Economy
This principle states that there should be economy in tax administration. The cost of tax collection should be lower than the amount of tax collected. It may not serve any purpose, if the taxes imposed are widespread but are difficult to administer. Therefore, it would make no sense to impose certain taxes, if it is difficult to administer.
Additional Canons of Taxation ↓
Activities and functions of the government have increased significantly since Adam Smith's time. Government are expected to maintain economic stability, full employment, reduce income inequality & promote growth and development. Tax system should be such that it meets the requirements of growing state activities. Accordingly, modern economists gave following additional canons of taxation.
5. Canon of Productivity
It is also known as the canon of fiscal adequacy. According to this principle, the tax system should be able to yield enough revenue for the treasury and the government should have no need to resort to deficit financing. This is a good principle to follow in a developing economy.
6. Canon of Elasticity
According to this canon, every tax imposed by the government should be elastic in nature. In other words, the income from tax should be capable of increasing or decreasing according to the requirement of the country. For example, if the government needs more income at time of crisis, the tax should be capable of yielding more income through increase in its rate.
7. Canon of Flexibility
It should be easily possible for the authorities to revise the tax structure both with respect to its coverage and rates, to suit the changing requirements of the economy. With changing time and conditions the tax system needs to be changed without much difficulty. The tax system must be flexible and not rigid.
8. Canon of Simplicity
The tax system should not be complicated. That makes it difficult to understand and administer and results in problems of interpretation and disputes. In India, the efforts of the government in recent years have been to make the system simple.
9. Canon of Diversity
This principle states that the government should collect taxes from different sources rather than concentrating on a single source of tax. It is not advisable for the government to depend upon a single source of tax, it may result in inequity to the certain section of the society; uncertainty for the government to raise funds. If the tax revenue comes from diversified source, then any reduction in tax revenue on account of any one cause is bound to be small.
Requirement of a Good Tax Structure / System ↓
The tax structure is a part of economic organisation of a society and therefore fit in its overall economic environment. No tax system that does not satisfy these basic condition can be termed a good one. However, the state should pursue mainly following principles in structuring its tax system :1. The primary aim of the tax should be to raise revenue for public services. 2. People should be asked to pay taxes according to their ability to pay and assessment of their taxable capacity should be made primarily on the basis of income and property.
3. Tax should not be discriminatory in any aspect between individuals and also between various groups.
Decentralised Taxes The law no 17/2002 of 10th May 2002 authorizes Kigali City and other districts to collect property tax, trading license and rental income tax. There are other duties and fees charged in accordance with the law no 28/2000 of 15/10/2001 as well as mayor’s tariff of 23/07/1996 that is still applicable. This however, raised public concern and confusion even before districts collected the above fiscal decentralized taxes. Fiscal decentralization was done in line with power decentralization or promotion of economic development in districts and towns. According to law No. 17/2002 article 5, any house and land registered whether in use or not must pay property tax. The district, town or city councils of the respective areas will determine the rates. The above mentioned article is supposedly to compensate for the abolished poll tax of Rwf 400 per adult person. For trade license, it varies depending on the type of activity and is fixed every year by the districts or towns but should not exceed Rwf 2000. Regarding the rental income tax, under articles 54-65, law no 17/2002 of 10/05/2002 establishing the source of revenue for districts and towns and its management, revenue derived from rent of buildings and land irrespective of their beneficiaries residence is taxable. Tax on rental income is among the taxes the central government transferred to the districts and towns. Net taxable income is obtained by deducting from gross income expenses incurred by the owner on maintenance amounting to 50% of the gross revenue.
In case a taxpayer built a house on loan and has a proof of subsidizing that loan, the net revenue is obtained by deducting from the gross revenue expenses incurred on rented house, which amounts to 30% of gross revenue plus interest of the bank. According to statistics obtained from RRA, the above decentralized taxes may generate more if properly handled by districts and towns in a convenient and flexible manner, thus satisfying their needs. Property Tax The following constitute the base and the rates of property tax. Because of the decentralisation policy, the collection and administering of these taxes has been vested in local authorities (Provinces and Districts). Under law No. 17/2002 of 10/05/02, property tax based on sources listed as 4 and 5 below as also provided by the decree of December 28, 1973 modified and completed to date remains under the jurisdiction of the Central Government. 1st base: Occupied houses
The tax on the floor of houses is fixed per square meter Location Kigali Other urban areas Trading centers Other places Rates of tax/ square meter 50Frw < 210 Frw 50 Frw < 130 Frw 25 Frw < 96 Frw 5 Frw < 55 Frw
Under article 15 of the above law, if one builds a storied house, he/she will have his/her tax rate rates reduced by 50% for the 1st floor constructed and from the 2nd floor upwards, his/her tax will be reduced by 75% while for each additional floor built upwards his/her tax will be reduced by 100%. If one builds an underground house, he/she is exempted from the tax. The District, town or city Council fixes the actual tax rate in accordance with the provisions of article 6 of the above law.
2nd
base:
Registered
land
not
yet
developed.
Tax on unused registered or unregistered plots whether being subject to a long term bail contract, rental contract or leased is calculated on the basis of square meters. Tax on unbuilt plots is fixed by the District, Town or City of Kigali as follows: Location Kigali City Other urban areas Trading centers Rates of tax/ square meter 20 Frw < 50 Frw 10 Frw < 20Frw 1 Frw < 10 Frw
Rural areas the tax is determined by the district or town council but it should not exceed 1000 Frw per hectare. If the taxpayer owns more than 20 hectares, he/she is taxed at a rate ranging from 1001 Frw to 2000 Frw for every additional hectare, the first being exempted from tax and fractions of hectares being not considered Under article 18 of law No.17/2002 of 10/05/02, the following are exempted from the fixed asset tax: a) land that is exclusively used for educational, medical, research and sporting activities which are proved not to be profit driven;
b) land on which Government, District and town infrastructure are affected or are to be affected; c) land used by diplomatic missions in Rwanda if their countries do not levy tax on land used by Rwandan diplomatic missions;
d) land used for charitable activities.
Rental Income
Tax on rent is charged on income generated from rented houses and located in Rwanda irrespective of the country of their benefiaries residence or home. This tax is charged on profit on rented houses and land and rennet profit of a person who rents out any assets or part of it. Those liable to pay tax are: (i) The owner of the goods, possessor or usufructuary of the fixed assets; (ii) The beneficiary of the net profit from rental income of land and buildings Those exempted are: (i) Houses or buildings of the Government, province/ city of Kigali, Districts or towns and public institutes with exception of those meant for commercial activity; (ii) Interests on rent obtained from any income generating activity on corporate tax that are exempted to rent interest. Tax rates Amount of income in frw___________ Rate From From From From From 0 60,001 180,001 300,001 600,001 to to to 60,000 to to 600,000 ________________________0% 180,000___________________10% 300,000__________________15% _________________ 20%
1,000,000
_______________25%
Above 1,000,000 _______________________30% Note that a copy of rent contract is submitted to district or town Administration in the same time with the income tax declaration.
The tax on rent income together with tax declaration is submitted to Tax collector of the district or town not later than 31st March of the following year in which interests are obtained.
Business Licences Under articles 44 to 53 of law No.17/2002 of 10/05/02 establishing the sources of revenue for districts and towns and its management, the duty for Licence to carry out trade or profession is payable each year by natural persons that normally carry out an activity for gain on a non-salaried basis and by corporate person on organisation that are liable to pay corporate taxes. The tax must be paid in full before starting the activity for which it is paid . For on going business, the duty is paid by the 1st quarter of every year. The tax varies according to the type of activity. The tax is determined according to where the taxpayer is operating or to the place of his/her usual residence. However, there are exemptions from trading Licence requirement including the following: The State of Rwanda, its Provinces and Districts and towns when they carry out noneprofit making activities; Corporate persons or organisation that are exempt from corporate taxes in accordance with articles 5 of the law on the code of direct taxes on various profits and professional income; Natural or corporate persons who are engaged in Agricultural or livestock activity. Fixing trading Licence The trading Licence is determined is determined by the basic Licence ―P‖ which may vary as specified by article 47 of law No.17/2002 by taking into account the type of
activity and where it is operated. The basic trading licence is fixed every year by the council of the district, town or Kigali city where taxpayers are based but it can not exceed 2000 Frw. The District, Town or Kigali city specifies each year the location to be taken as rural or urban area.The duty sticker issued shall be posted in plain view at the entrance to the establishment where the operations to which it relates are carried on or on the vehicle for which it is issued or worn, in plain view by the person responsible for collecting receipts. Trade licence is charged on activities as follows: Each district or town fixes the rate of the tax on rent in accordance with the provisions of this article. The estimated rates can not exceed these shown in the scale below Base P without scale who do use PA 1PA 2PA 2PA Rural Area
Type of activity A)Vendors shops,small technicians not
Town
City of Kigali
machines,transporters of people and property on motorcycle B)Traders and 5PB 10PB 20PB
technicians who use PB machines C)Any transporter not mentioned under A PC
10PC on 10PC each car 5PD each car 30PD
on 10PC on each car 100PD
D)Hotel business self PD
employed E)Professinal taxpayer services rendered to PE others and the like F)Industries,imports and export business G)Insurance,banking and the like PF 120PF 120PF 120PF 10PE 20PE 20PE
PG
30PG
100PG
100PG
A copy of the rent contract is submitted to the district so as to allow it to know and control the fixed rates.
Tax services Welcome to Tax Services Section Domestic Tax Department (DTD) was formed in April 2006 in order to create a onestop-shop highly efficient and customer oriented tax office. The basic objective was to increase and coordinate control over the largest taxpayers, improve large taxpayers’ compliance and revenue yield to the Government. The LTO accounts for over 50% of total RRA revenue collections. The Department is comprised of two offices i.e Large Taxpayer Office (LTO) and Small and Medium Taxpayers Office (SMTO). Strategic objectives In line with the above-mentioned mission, DTD has identified its strategic aims as being: • To minimise revenue loss through enhanced internal controls
• To provide efficient and effective services to clients and other stakeholders;
•
To
enhance
capacity
of
the
staff
• To separate medium taxpayers from Small ones with an aim of maximising revenues. Concept, Nature and Characteristics of Taxation and Taxes. Meaning of Taxation Taxation is the inherent power of the state, acting through the legislature, to impose and collect revenues to support the government and its recognized objects. Simply stated, taxation is the power of the State to collect revenues for public purpose. Purpose of Taxation Primary Purpose - is to provide funds or property with which the government discharges its appropriate functions for the protection and general welfare of the its citizens. Non Revenue Objectives Aside from purely financing government operational expenditures, taxation is also utilized as a tool to carry out the national objective of social and economic development. 1. to strengthen anemic enterprises by granting them tax exemptions or other conditions or incentives for growth; 2. to protect local industries against foreign competition by increasing local import taxes; 3. as a bargaining tool in trade negotiations with other countries; 4. to counter the effects of inflation or depression; 5. to reduce inequalities in the distribution of wealth;
6. to promote science and invention, finance educational activities or maintain and improve the efficiency of local police forces; 7. to implement police power and promote general welfare. Meaning of Taxes Taxes are enforced proportional contributions from persons and property levied by the lawmaking body of the state by virtue of its sovereignty for the support of the government and all public needs. Tax in a general sense, is any contribution imposed by the government upon individuals for the use and service of the state, whether under the name of toll, tribute, impost, duty, custom, excise, subsidy, aid, supply or other name. Tax, in its essential characteristics , is not a debt. Essential characteristics of tax. 1. it is an enforced contribution 2. it is generally payable in money. 3. It is proportionate in character, usually based on the ability to pay 4. it is levied on persons and property within the jurisdiction of the state 5. it is levied pursuant to legislative authority, the power to tax can only be exercised by the law making body or congress 6. it is levied for public purpose 7. it is commonly required to be paid a regular intervals.
Decentralised Taxes The law no 17/2002 of 10th May 2002 authorizes Kigali City and other districts to collect property tax, trading license and rental income tax. There are other duties and fees
charged in accordance with the law no 28/2000 of 15/10/2001 as well as mayor’s tariff of 23/07/1996 that is still applicable. This however, raised public concern and confusion even before districts collected the above fiscal decentralized taxes. Fiscal decentralization was done in line with power decentralization or promotion of economic development in districts and towns. According to law No. 17/2002 article 5, any house and land registered whether in use or not must pay property tax. The district, town or city councils of the respective areas will determine the rates. The above mentioned article is supposedly to compensate for the abolished poll tax of Rwf 400 per adult person. For trade license, it varies depending on the type of activity and is fixed every year by the districts or towns but should not exceed Rwf 2000. Regarding the rental income tax, under articles 54-65, law no 17/2002 of 10/05/2002 establishing the source of revenue for districts and towns and its management, revenue derived from rent of buildings and land irrespective of their beneficiaries residence is taxable. Tax on rental income is among the taxes the central government transferred to the districts and towns. Net taxable income is obtained by deducting from gross income expenses incurred by the owner on maintenance amounting to 50% of the gross revenue. In case a taxpayer built a house on loan and has a proof of subsidizing that loan, the net revenue is obtained by deducting from the gross revenue expenses incurred on rented house, which amounts to 30% of gross revenue plus interest of the bank. According to statistics obtained from RRA, the above decentralized taxes may generate more if properly handled by districts and towns in a convenient and flexible manner, thus satisfying their needs.
Types of Excise Tax Taxable goods and services Consumption tax is levied on the following locally manufactured products: Beers, lemonades, cigarettes, wines, spirits and mineral water made in Rwanda and telephone communication supplied by telephone communication providers operating in Rwanda are liable to Consumption tax (Excise Duty). Consumption tax shall be levied on the following products at the corresponding rates: Product_________________Tax rate Juice Soda Mineral Beer Wine___________________ Brandies, Cigarettes Telephone Fuel gas powdered Vehicles capacity Vehicles capacity Vehicles of of oil, fuel milk with above with between with 1500 and an 2500 an 2500 cc__ liquors and ______________ Communication__ (excluding and lubricants__ _________ an cc __ whiskyfrom and fruits___________ Lemonade_______ Water____________ ___________________ 5% 39% 10% 60% 70% 70% 150% 5% benzene), 76% 10% engine 15% engine 10% engine
capacity of less than 1500cc _________ 5% The taxable value on locally manufactured products is calculated according to selling price exclusive of taxes. The tax shall be payable when the taxable products are cleared
out of the factory for consumer use in case of locally manufactured products and when the taxable service provided is telecommunication services. Declaration and payment Factories making beers, lemonades, cigarettes, wines, spirits, juices and mineral water shall file, for each period of ten days a statement concerning excisable goods cleared out of the factory for consumer use. For purposes of implementing the Excise Duty Law, a month is divided into the following three periods: 1◦ 2◦ from from 1st 11th to to 20th 10th of of every every month month; and;
3◦ from 21st towards the end of the month. A taxpayer is required to file his or her declaration The Declaration shall be accompanied by proof of Payment of the taxes due to the collector of the tax or his representative with in five days following the declaration period. The law N° 26/2006 of 27/05/2006 determining and establishing consumption tax on some imported and locally manufactured products provide penalties to taxpayers to fail to observe the required provisions.
Types of withholding taxes Withholding Tax on other payments A withholding tax of fifteen (15%) percent is levied on the following payments made by resident individuals or resident entities including tax-exempt entities: 1° 2° dividends, except those governed by Article 45 of this law;
interests;
3° 4° service fees including management and technical
royalties; service fees;
5° performance payments made to an artist, a musician or an athlete irrespective of whether paid directly or through an entity that is not resident in Rwanda; 6° lottery and other gambling proceeds. The withholding agent is required to file a tax declaration based on procedures prescribed by the Commissioner General and transmit the tax withheld to the Tax Administration according to paragraph one of this Article within fifteen (15) working days after the tax is withheld. Paragraphs 1 and 2 of this Article are also applicable to non-resident individuals and non-resident entities for such payments that can be allocated to a permanent establishment which that person maintains in Rwanda. Withholding Tax on Imports and Public Tenders A withholding tax of five percent (5%) of the value of goods imported for commercial use shall be paid at custom on the CIF (cost insurance and freight value) value before the goods are released by customs. A withholding tax of three percent (3%) on the sum of invoice, excluding the value added tax, is retained on payments Or by public institutions to those who supply goods and services based on public tenders. The following taxpayers are exempt from withholding tax mentioned in paragraph one and 1° those 2 whose business of profit is this exempt from Article: taxation;
2° those who have tax clearance certificate issued by the Commissioner General. The Commissioner General issues a tax clearance certificate to taxpayers who have filed their tax declarations on their business activities; paid the tax due on a regular basis, and have no tax arrears. The certificate is valid in the year in which it was issued.
The Commissioner General may revoke a tax clearance certificate at any time if the conditions required in paragraph 4 of this Article are not fulfilled.
Domestic Taxes and Rates Here are different sorts of Domestic Taxes: Value Excise Withholding Pay Corporate Personal As You Income Income Earn Tax Tax Added Tax (VAT); Tax; Taxes; (PAYE); (CIT); (PIT);
Forfait on Turnover imputed (PIT
Withholding tax, also called retention tax, is a government requirement for the payer of an item of income to withhold or deduct tax from the payment, and pay that tax to the government. In most jurisdictions, withholding tax applies to employment income. Many jurisdictions also require withholding tax on payments of interest or dividends. In most jurisdictions, there are additional withholding tax obligations if the recipient of the income is resident in a different jurisdiction, and in those circumstances withholding tax sometimes applies to royalties, rent or even the sale of real estate. Governments use withholding tax as a means to combat tax evasion, and sometimes impose additional withholding tax requirements if the recipient has been delinquent in filing tax returns, or in industries where tax evasion is perceived to be common. Typically the withholding tax is treated as a payment on account of the recipient's final tax liability. It may be refunded if it is determined, when a tax return is filed, that the recipient's tax liability to the government which received the withholding tax is less than the tax withheld, or additional tax may be due if it is determined that the recipient's tax liability is more than the
withholding tax. In some cases the withholding tax is treated as discharging the recipient's tax liability, and no tax return or additional tax is required. The amount of withholding tax on income payments other than employment income is usually a fixed percentage. In the case of employment income the amount of withholding tax is often based on an estimate of the employee's final tax liability, determined either by the employee or by the government. An excise or excise tax (sometimes called a duty of excise special tax) is an inland tax on the sale, or production for sale, of specific goods or a tax on a good produced for sale, or sold, within a country or licenses for specific activities. Excises are distinguished from customs duties, which are taxes on importation. Excises are inland taxes, whereas customs duties are border taxes. An excise is considered an indirect tax, meaning that the producer or seller who pays the tax to the government is expected to try to recover or shift the tax by raising the price paid by the buyer. Excises are typically imposed in addition to another indirect tax such as a sales tax or value added tax (VAT). In common terminology (but not necessarily in law), an excise is distinguished from a sales tax or VAT in three ways: (i) an excise typically applies to a narrower range of products; (ii) an excise is typically heavier, accounting for a higher fraction of the retail price of the targeted products; and (iii) an excise is typically a per unit tax, costing a specific amount for a volume or unit of the item purchased, whereas a sales tax or VAT is an ad valorem tax and proportional to the price of the good. Typical examples of excise duties are taxes on gasoline and other fuels, and taxes on tobacco and alcohol (sometimes referred to as sin tax).
A value added tax (VAT) is a form of consumption tax. From the perspective of the buyer, it is a tax on the purchase price. From that of the seller, it is a tax only on the value added to a product, material, or service, from an accounting point of view, by this stage of its manufacture or distribution. The manufacturer remits to the government the difference between these two
amounts, and retains the rest for themselves to offset the taxes they had previously paid on the inputs. The value added to a product by a business is the sale price charged to its customer, minus the cost of materials and other taxable inputs. A VAT is like a sales tax in that ultimately only the end consumer is taxed. It differs from the sales tax in that, with the latter, the tax is collected and remitted to the government only once, at the point of purchase by the end consumer. With the VAT, collections, remittances to the government, and credits for taxes already paid occur each time a business in the supply chain purchases products. CHAPTER FIVE: FISCAL OPERATIONS OF THE GOVERNMENT
5.1: Meaning of fiscal policy Etymologically, the term fiscal has been derived from the Greek word “fisc” meaning basket to symbolise the public purse. Fisc thus refers to the treasury. Fiscal policy therefore means the policy related to the treasury of the government. Fiscal policy is the economic term that defines the set of principles and decisions of a government in setting the level of public expenditure and how that expenditure is funded. Generally fiscal policy and monetary policy are the macroeconomic tools that governments have at their disposal to manage the economy. Fiscal policy is the deliberate and thought out change in government spending, government borrowing or taxes to stimulate or slow down the economy. It contrasts with monetary policy, which describes policies concerning the supply of money to the economy. Fiscal policy is described as being neutral, expansionary, or contractionary. An expansionary fiscal policy occurs when the government lowers taxes and/or increases spending; thus increasing output (national income). A decrease in government purchases or an increase in taxes shifts the aggregate demand curve to the left. A contractionary fiscal policy will constrict the economy's overall growth. 5.2: Objectives of fiscal policy
As stated above, in modern economy financial operations of the government resolves to influence the overall economic activity, employment, prices, and the growth process of the system as whole. The major fiscal functions of the budgetary policy of the government are: The allocation of resources Public Economics: Lecture Notes prepared by Mr. Ildephonse MUSAFIRI Page 43
44 Through budgetary means the government can play an important part in allocating productive resources from private to public use and vice versa. Fiscal policy in essence lies at the heart of government’s allocation function. For instance through budgetary operations the government can ensure the provision of public goods, such as maintenance of law and order, defence etc. It should be noted that resources are scarce; hence optimum allocation of such resources becomes a primary objective of fiscal policy. Public expenditure can be undertaken in desired areas where private resources will not flow. Similarly tax exemption and concessions can help to attract resources towards needy sectors. So also high taxation will drive away resources from such fields. Equitable distribution of wealth and income The modern economy government intends to secure a fair distribution of the country’s income and wealth among citizens. For this reason, a government tends to impose higher or progressive taxes upon the richer sections so that there is equity in taxation and channelises public finance. Extreme inequalities of income and wealth are discerned everywhere but are harmful to economic development. Hence redistributive public expenditure and redistributive tax policy can reduce such inequality in income and wealth. Further redistributive public expenditure policy requires that government should spend in a way which would benefit low income groups. Public expenditure on free education, welfare schemes help to improve the standard of living as well as the productive capacity of the poorer people. Price stability (The stabilization function) It refers to the maintenance of a high level of resource utilisation and stability of the value of money. In other words, price stability and full employment are among the important objects of
the government in modern public finance. Generally price stability is an important objective for all countries. Fiscal policy should aim at avoiding both recessions and inflation. Further mild rise in price is considered as an incentive for capital formation and investment but high rate of inflation would remove gains of development. Therefore fiscal policy regulates price where market mechanisms can not afford. Public Economics: Lecture Notes prepared by Mr. Ildephonse MUSAFIRI Page 44
To accelerate the rate of economic growth 45 It refers to the use of budget and fiscal instruments for the promotion of economic growth and development in the economy (especially in developing economies). It stresses the need for a growth oriented or developmental public expenditure in a developing economy. In that all three fiscal instruments of taxation, public expenditure and public borrowing should be used with to encourage production, consumption and distribution of goods. They should be aimed at increasing national income as well as percapita income. Full employment This is the common objective of fiscal policy in all countries. Hence fiscal policy should aim at reducing the extent of unemployment and under-employment. Public expenditure on social overheads, public sector enterprises all help to create employment opportunities. Tax holidays and subsidies to start industries in rural areas help to generate employment. Also public expenditure for public works like road construction and other construction activities are recommended to reduce unemployment during depression period, since helps to compensate for the deficiency in private sector. To reduce regional imbalances In a developing countries especially, regional imbalances can hinder progress. Thus fiscal policy can be geared to develop such regions where development is lacking. Tax concessions may be given to industries started in backward areas. 5.3: Fiscal Instruments In order for the government to accomplish its duties, it uses fiscal instruments, which portrays its functions. Fiscal instruments includes: public revenues, public expenditures and public
debts. The current chapter is about the first instrument: Public revenues. 5.4. Public Revenue 5.4.1. Definition Public Economics: Lecture Notes prepared by Mr. Ildephonse MUSAFIRI Page 45
46 Any public authority or government needs income for the performance of a variety of functions and meeting its expenditure. Public revenues or incomes are in two folds, such as: public receipts which may result from all sources of revenues such as borrowing or sales of capital, where as public revenue entails only those sources of income of the public authority which are ordinarily known. The necessity of public revenue is of course, due to the needs of public expenditure. The size of public revenue is thus determined by the volume of public expenditure. 5.4.2. Tax revenues In wide knowledge public revenues comes from taxes, which basically constitutes a large portion of public finances internally. The amount of taxes collected indicates the size of the economy. Generally speaking, taxes are compulsory contributions imposed by the government on its citizens to meet its general expenses incurred for the common good, without any corresponding benefits to the tax-payer. In other words taxes are distinguished from other government charges, in that there is absence of quid pro quo between the tax-payer and the public authority. There are also non-tax revenues. These include: ►Administrative revenue: public authorities can raise some funds in form of fees (which are charges imposed by the government for rendering service to the beneficiaries). Also include fines and penalties (are levied and collected from offenders of laws as punishment, special assessments (is a compulsory contribution levied in proportion to the social benefits derived to defray the cost of a specific improvement to property undertaken in the public interests). ► Profits of state Enterprises: profits of state undertakings are an important source of revenue these days owing to the expansion of the public sector. These may rise from services and
investments done by the government such as state transport, and other commercial undertakings. Earnings from the state enterprises depend upon the prices charged by them for
their goods and services and surplus derived therefrom. Thus, the pricing of state undertakings should be self-supporting and reasonably profit oriented. ► Gifts and grants: these form generally a very small part of public revenue. These are purely voluntary contributions. In modern times, however grants from one government to another have a greater importance. Local governments receive grants from state governments. When grants are by one country’s government to another country’s government, it is called foreign aid. It should be noted that deep knowledge about taxes and its form are pre-requisite to understanding the course of public finance. Given the duties of the government in modern world, taxes are regarded as the central part of public finance, that is through out the world, it is the biggest source of public revenue. Governments devise means to generate resources within their economies in order to avoid debts and its burdens. The following below is the theory underlying taxation policy. 5.4.3 Canons and characteristics of tax system Canons of taxation refer to the administrative aspect of a tax. They relate to the rate, amount, and method of levy and collection of a tax. In other words the characteristics or qualities which a tax must possess are described as canons of taxation. It must be noted that canons refer to qualities of an isolated tax and not the tax system as a whole. Qualities of a good tax system are described as the characteristics of a good tax system, which entails a proper combination of all kinds of taxes having different canons. In short, canons of taxation imply attributes of a good tax, whereas characteristics of a good tax system signify the quality of the tax system taken as a whole. On the administrative side of the public finance there four canons of taxation: The canon of equity or equality: this canon stresses that; there should be social justice in the allocation of tax burden. Normally taxation imposes a burden upon taxpayers. This entails money burden and real burden of taxation which may be direct and /or indirect. The direct
money burden of taxation refers to the amount of money income the people have to pay as Public Economics: Lecture Notes prepared by Mr. Ildephonse MUSAFIRI Page 47
48 taxes to the government. Generally it decreases the disposable money income of the people. The direct real burden however means the amount of sacrifice (disutility) involved in parting with purchasing power in the tax payment. Hence this canon spells that the burden of taxation must be distributed equally or equitably in relation to the ability of tax-payers. Further equity or social justice demands that the rich people should bear a heavier burden of tax and the poor lesser burden. The canon of Certainty: taxation must have an element of certainty. Accordingly, the tax which each individual is bound to pay ought to be certain and not arbitrary. In that the time to pay, the manner of payment, the amount to be paid ought to be clear and plain to the contributor and to every other person. The certainty aspect of taxation are: certainty of effective incidence that is who shall bear the tax burden, certainty of liability that is as to how much shall be the tax amount payable in a particular period. And certainty of revenue that is the government should be certain about the estimated collection f revenue from a given tax levied. The canon of economy: this principle suggests that the cost of collecting a tax should not be exorbitant but the minimum. Also there should be economy in sacrifice involved in the payment of tax by the tax-payer. Generally it supports the principle of minimum aggregate sacrifice in taxation. Canon of convenience: according to this canon, tax should be collected in a convenient manner from the tax-payer. Adam smith stresses that, “every tax ought to be levied at the time or in the manner in which it is most likely to be convenient for the contributor to pay it”. Further there should be an appropriate timing of tax collection and its mode of receiving payments should be such which is easy and convenient to the tax-payers. Such taxes are least felt by the tax-payers as they are collected at a time when they have sufficient money or income; otherwise they may be put to difficulties. In addition the good tax system thus possesses the following characteristics:
It ensures maximum social advantage. Thus taxation should be used to finance public finance. Public Economics: Lecture Notes prepared by Mr. Ildephonse MUSAFIRI Page 48
49 It should cause minimum aggregate sacrifice. In a good tax system, the allocation of taxes among tax-payers is made according to the ability to pay. In a good tax system, taxes are universally applicable in the sense that persons with the same ability to pay are treated in the same way without any discrimination whatsoever. It contains predominance of good taxes satisfying most of the canons of taxation. That is the taxes imposed are more or less equitable, convenient to pay, economical, certain, productive, flexible, and simple as far as possible. The entire structure of the tax system should have built-in flexibility so that changes are possible according to the changing conditions of a dynamic economy. It should be possible to add or withdraw a tax without destroying the entire system and its balancing effect. A rigid tax structure is very unsatisfactory. Taxation must cope with the changing needs of the modern government. Capacity to adjust itself to the dynamic conditions is a virtue of a good tax system. It should not hinder the growth of trade and industry; rather it helps the rapid economic development of the country. It is a balanced tax system. It means there must exist not one kind of taxes but all types on a proper balance. In other words it should contain all sorts of taxes that is progressive, regressive and proportional taxes. 5.4.4. Kinds of Tax rates In considering the relationship existing between tax rate and the tax base (income), there are four types of taxes as follows below: Proportional taxes: these refer to the taxes which remain constant, though the tax base changes. In a proportional tax system, taxes vary in direct proportion to the change in income. However proportional taxes are not equitable as poor and rich are taxed at the same rate. Public Economics: Lecture Notes prepared by Mr. Ildephonse MUSAFIRI Page 49
50 Progressive taxes: these refer to the taxes which the rate increases as the tax base increases. Thus in a progressive tax, amount of tax paid will increase at a higher rate than the increase in tax base or income, for the taxation amount is the product of multiplying base by the rate and both these increase in a progressive tax. Degressive taxes: these are taxes which are mildly progressive, hence not very steep. In this type a tax may be progressive up to a certain limit after that it may be charged at a flat rate. 5.4.5 Taxable capacity It refers to the maximum tax which might be collected from a particular tax-payer or a group of tax-payers. In ordinary terms it refers to the maximum capacity of a community to bear taxes without much hardship. It indicates that degree of taxation beyond which productive effort and efficiency as a whole begin to suffer. The knowledge of taxable capacity is, therefore very important to a modern government. In a sense that by knowing the taxable limits, the government can refrain from imposing unduly high taxes which may prove irksome and cause resentment among the people. Determinants of Taxable Capacity The taxable capacity of a country is determined by a number of factors. The main factors are: 1. Size of income and Wealth: generally the larger wealth and income of the country, greater is its taxable capacity. Hence rich nations have a higher taxable capacity than poor nations. 2. Distribution of National Income and wealth: The taxable capacity largely depends on how income and wealth are shared by the people. In that taxable capacity will be greater if greater is inequality of income and wealth in the country, since relative taxable capacity implies the ability to pay and save, which is greater in case of a few very rich persons than the case of so many moderately well-to-do people. Further there is equality of income every one will have the same marginal income utility, hence the sacrifice will increase faster with progressive rates of taxation; therefore a greater resistance will be caused against heavy taxation than otherwise. However it should be noted that, income inequalityis not justifiable in modern economies though generates more revenues. Equal distribution of income among the citizens should be the ultimate objective of any government. 3. Stability and Growth of Income: basically if the economy operates smoothly and
progresses well, and ensures a stable and growing income, the taxable capacity of the community will be higher. But, if there are fluctuations with serious ups and downs, and especially during a depression, taxable capacity will obviously be lower. 4. Size and growth rate of Population: A high per capita income expresses a greater ability to pay. But given the national income of a country, its per capita income depends on its population number. Hence country having a vast population with a galloping rate of growth has a lower taxable capacity than a country having a small and constant population. It should be noted that normally when the national income grows faster than the population the taxable capacity is increased. Therefore developing countries need to check their population growth in order tom expand their tax resources for developmental planning. 5. Standard of Living of the People: the standard of living determines the consumption pattern and habit of the community. A community accustomed to greater needs as satisfaction on account of high standards of living cannot bear great sacrifice in paying taxes; hence its taxable capacity will be less. But if the standard of living is low, there is a greater surplus available for taxation, so that taxable capacity will be high. Further, taxable capacity will increase with a rise in income provided the standard of living remains unchanged. 6. Price Level: If the price level is reasonably low and stable, a high income means greater taxable capacity. But, if prices are rising fast, a very high income may also pose a low capacity in real terms. 7. Characteristics of the tax system: A multiple tax system has a greater advantage of enlarging the overall taxable capacity than a single tax system. This however does not mean that the tax system should be complicated by a bundle of taxes. Rather should be simple which would increase the taxable capacity. Thus the kinds of taxes imposed and manner of levying taxes too influence the taxable capacity of the country. In that those taxes which cause no resentment or interfere the least with economic efforts permit a higher taxable capacity than those which constantly cause friction and damage. Public Economics: Lecture Notes prepared by Mr. Ildephonse MUSAFIRI Page 51
52 8. Nature and Purpose public Expenditure: The proceeds of the taxation are determining factor in the taxable capacity. If public expenditure is largely for developmental schemes the productive power of the country improves and thus the taxable capacity enlarges. Further taxation intended for financing capital formation is therefore quite justified as it raises the taxable capacity in effect. 9. Political Condition: An efficient and honest administration of the government and the maintenance of law and order is very essential for improving taxable capacity. Generally when people appreciate the government, they will be willing to undergo many hardships and bear heavier taxes to in order to enable the government to undertake welfare measures beneficial to the common people; hence the taxable potential automatically expands. 10. Psychology of the People: People will be patriotic only towards the government but not to
the invaders, hence taxable capacity of the nation would be greater in war times when people are ready to bear any burden on sentimental and patriotic grounds. Further economic cycle affects the general psychology of the people. In that during the prosperity, people in general are optimistic and have greater taxable capacity. But during depression when the wave of pessimism prevails, taxable limit is minimum.
1 Overview
o
1.1 Tax rates
2 Purposes and effects o o
2.1 Proportional, progressive, regressive, and lump-sum 2.2 Direct and indirect
3 Kinds of taxes o 3.1 Taxes on income
3.1.1 Income tax 3.1.2 Capital gains tax 3.1.3 Corporate tax
o o o
3.2 Social security contributions 3.3 Taxes on payroll or workforce 3.4 Taxes on property
3.4.1 Property tax 3.4.2 Inheritance tax 3.4.3 Expatriation tax 3.4.4 Transfer tax 3.4.5 Wealth (net worth) tax
o
3.5 Taxes on goods and services
3.5.1 Value added tax (Goods and Services Tax) 3.5.2 Sales taxes 3.5.3 Excises
o o
3.6 Tariff 3.7 Other taxes
3.7.1 License fees 3.7.2 Poll tax 3.7.3 Other
o
3.8 Descriptive labels given some taxes
3.8.1 Ad valorem
o
3.8.2 Consumption tax 3.8.3 Environmental tax
3.9 Fees and effective taxes
4 History o o
4.1 Taxation levels 4.2 Forms of taxation
5 Economic effects o o
5.1 Tax incidence 5.2 Reduced economic welfare
5.2.1 Cost of compliance 5.2.2 Deadweight costs of taxation 5.2.3 Perverse incentives 5.2.4 Reduced production
o
5.3 Increased economic welfare
5.3.1 Pigovian taxes 5.3.2 Reduced inequality
6 Views on taxation o o
6.1 Support for taxation 6.2 Opposition to taxation
7 Theories on taxation o o
7.1 Laffer curve 7.2 Optimal tax
8 See also o 8.1 By country or region
9 Notes 10 External links [edit]Overview
Pieter Brueghel the Younger, The tax collector, 1640
The legal definition and the economic definition of taxes differ in that economists do not consider many transfers to governments to be taxes. For example, some transfers to the public sector are comparable to prices. Examples include tuition at public universities and fees for utilities provided by local governments. Governments also obtain resources by creating money (e.g., printing bills and minting coins), through voluntary gifts (e.g., contributions to public universities and museums), by imposing penalties (e.g., traffic fines), by borrowing, and by confiscating wealth. From the view of economists, a tax is a non-penal, yet compulsory transfer of resources from the private to thePublic sector levied on a basis of predetermined criteria and without reference to specific benefit received. In modern taxation systems, taxes are levied in money; but, in-kind and corvée taxation are characteristic of traditional or pre-capitaliststates and their functional equivalents. The method of taxation and the government expenditure of taxes raised is often highly debated inpolitics and economics. Tax collection is performed by a government agency such as Canada Revenue Agency, the Internal Revenue Service (IRS) in the United States, or Her Majesty's Revenue and Customs (HMRC) in the United Kingdom. When taxes are not fully paid, civil penalties (such as fines or forfeiture) or criminal penalties (such as incarceration)[2] may be imposed on the non-paying entity or individual.
[edit]Tax rates Main article: Tax rate Taxes are most often levied as a percentage, called the tax rate. An important distinction when talking about tax rates is to distinguish between the marginal rate and the effective (average) rate. The effective rate is the total tax paid divided by the total amount the tax is paid on, while the marginal rate is the rate paid on the next dollar of income earned. For example, if income is taxed on a formula of 5% from $0 up to $50,000, 10% from $50,000 to $100,000, and 15% over $100,000, a taxpayer with income of $175,000 would pay a total of $18,750 in taxes. Tax calculation
(0.05*50,000) + (0.10*50,000) + (0.15*75,000) = 18,750 The "effective rate" would be 10.7%: 18,750/175,000 = 0.107 The "marginal rate" would be 15%. [edit]Purposes and effects Money provided by taxation has been used by states and their functional equivalents throughout history to carry out many functions. Some of these include expenditures on war, the enforcement of law and public order, protection of property, economic infrastructure (roads, legal tender, enforcement of contracts, etc.), public works, social engineering, and the operation of government itself. Governments also use taxes to fund welfare and public services. A portion of taxes also go to pay off the state's debt and the interest this debt accumulates. These services can include education systems, health care systems, pensions for the elderly, unemployment benefits, and public transportation. Energy, water and waste management systems are also common public utilities. Colonial and modernizing states have also used cash taxes to draw or force reluctant subsistence producers into cash economies. Governments use different kinds of taxes and vary the tax rates. This is done to distribute the tax burden among individuals or classes of the population involved in taxable activities, such asbusiness, or to redistribute resources between individuals or classes in the population. Historically, the nobility were supported by taxes on the poor; modern social security systems are intended to support the poor, the disabled, or the retired by taxes on those who are still working. In addition, taxes are applied to fund foreign aid and military ventures, to influence the macroeconomicperformance of the economy (the government's strategy for doing this is called its fiscal policy; see also tax exemption), or to modify
patterns of consumption or employment within an economy, by making some classes of transaction more or less attractive. A nation's tax system is often a reflection of its communal values or/and the values of those in power. To create a system of taxation, a nation must make choices regarding the distribution of the tax burden—who will pay taxes and how much they will pay—and how the taxes collected will be spent. In democratic nations where the public elects those in charge of establishing the tax system, these choices reflect the type of community that the public wishes to create. In countries where the public does not have a significant amount of influence over the system of taxation, that system may be more of a reflection on the values of those in power. All large businesses incur administrative costs in the process of delivering revenue collected from customers to the suppliers of the goods or services being purchased. Taxation is no different, the resource collected from the public through taxation is always greater than the amount which can be used by the government. The difference is called compliance cost, and includes for example the labour cost and other expenses incurred in complying with tax laws and rules. The collection of a tax in order to spend it on a specified purpose, for example collecting a tax on alcohol to pay directly for alcoholism rehabilitation centres, is called hypothecation. This practice is often disliked by finance ministers, since it reduces their freedom of action. Some economic theorists consider the concept to be intellectually dishonest since, in reality, money is fungible. Furthermore, it often happens that taxes or excises initially levied to fund some specific government programs are then later diverted to the government general fund. In some cases, such taxes are collected in fundamentally inefficient ways, for example highway tolls. Some economists, especially neo-classical economists, argue that all taxation creates market distortion and results in economic inefficiency. They have therefore sought to identify the kind of tax system that would minimize this distortion.
Since governments also resolve commercial disputes, especially in countries with common law, similar arguments are sometimes used to justify a sales tax or value added tax. Others (e.g.libertarians) argue that most or all forms of taxes are immoral due to their involuntary (and therefore eventually coercive/violent) nature. The most extreme anti-tax view is anarcho-capitalism, in which the provision of all social services should be voluntarily bought by the person(s) using them. [edit]Proportional, progressive, regressive, and lump-sum An important feature of tax systems is the percentage of the tax burden as it relates to income or consumption. The terms progressive, regressive, and proportional are used to describe the way the rate progresses from low to high, from high to low, or proportionally. The terms describe a distribution effect, which can be applied to any type of tax system (income or consumption) that meets the definition.
A progressive tax is a tax imposed so that the effective tax rate increases as the amount to which the rate is applied increases.
The opposite of a progressive tax is a regressive tax, where the effective tax rate decreases as the amount to which the rate is applied increases. This effect is commonly produced where means testing is used to withdraw tax allowances or state benefits.
In between is a proportional tax, where the effective tax rate is fixed, while the amount to which the rate is applied increases.
A lump-sum tax is a tax that is a fixed amount, no matter the change in circumstance of the taxed entity. This in actuality is a regressive tax as in actuality those with lower income must use higher percentage of their income than those with higher income and therefore the effect of the tax reduces as a function of income.
The terms can also be used to apply meaning to the taxation of select consumption, such as a tax on luxury goods and the exemption of basic necessities may be described as having progressive effects as it increases a
tax burden on high end consumption and decreases a tax burden on low end consumption.[3][4][5] [edit]Direct and indirect Main articles: Direct tax and Indirect tax Taxes are sometimes referred to as "direct taxes" or "indirect taxes". The meaning of these terms can vary in different contexts, which can sometimes lead to confusion. An economic definition, by Atkinson, states that "...direct taxes may be adjusted to the individual characteristics of the taxpayer, whereas indirect taxes are levied on transactions irrespective of the circumstances of buyer or seller."[6] According to this definition, for example, income tax is "direct", and sales tax is "indirect". In law, the terms may have different meanings. In U.S. constitutional law, for instance, direct taxes refer to poll taxes and property taxes, which are based on simple existence or ownership. Indirect taxes are imposed on events, rights, privileges, and activities.[7] Thus, a tax on the sale of property would be considered an indirect tax, whereas the tax on simply owning the property itself would be a direct tax. [edit]Kinds of taxes The Organisation for Economic Co-operation and Development (OECD) publishes an analysis of tax systems of member countries. As part of such analysis, OECD developed a definition and system of classification of internal taxes,[8] generally followed below. In addition, many countries impose taxes (tariffs) on the import of goods. [edit]Taxes on income [edit]Income tax Main article: Income tax Many jurisdictions tax the income of individuals and business entities, including corporations. Generally the tax is imposed on net profits from business, net gains, and other income. Computation of income subject to tax
may be determined under accounting principles used in the jurisdiction, which may be modified or replaced by tax law principles in the jurisdiction. The incidence of taxation varies by system, and some systems may be viewed as progressive or regressive. Rates of tax may vary or be constant (flat) by income level. Many systems allow individuals certain personal allowances and other nonbusiness reductions to taxable income. Personal income tax is often collected on a pay-as-you-earn basis, with small corrections made soon after the end of the tax year. These corrections take one of two forms: payments to the government, for taxpayers who have not paid enough during the tax year; and tax refunds from the government for those who have overpaid. Income tax systems will often have deductions available that lessen the total tax liability by reducing total taxable income. They may allow losses from one type of income to be counted against another. For example, a loss on the stock market may be deducted against taxes paid on wages. Other tax systems may isolate the loss, such that business losses can only be deducted against business tax by carrying forward the loss to later tax years. [edit]Capital gains tax Main article: Capital gains tax Most jurisdictions imposing an income tax treat capital gains as part of income subject to tax. Capital gain is generally gain on sale of capital assets, i.e., those assets not held for sale in the ordinary course of business. Capital assets include personal assets in many jurisdictions. Some jurisdictions provide preferential rates of tax or only partial taxation for capital gains. Some jurisdictions impose different rates or levels of capital gains taxation based on the length of time the asset was held. [edit]Corporate tax Main article: Corporate tax
Corporate tax refers to income, capital, net worth, or other taxes imposed on corporations. Rates of tax and the taxable base for corporations may differ from those for individuals or other taxable persons. [edit]Social security contributions Many countries provide publicly funded retirement or health care systems.[9] In connection with these systems, the country typically requires employers and/or employees to make compulsory payments. [10] These payments are often computed by reference to wages or earnings from self employment. Tax rates are generally fixed, but a different rate may be imposed on employers than on employees.[11] Some systems provide an upper limit on earnings subject to the tax. A few systems provide that the tax is payable only on wages above a particular amount. Such upper or lower limits may apply for retirement but not health care components of the tax. [edit]Taxes on payroll or workforce Unemployment and similar taxes are often imposed on employers based on total payroll. These taxes may be imposed in both the country and subcountry levels.[12] [edit]Taxes on property Recurrent [property taxes] may be imposed on immovable property (real property) and some classes of movable property. In addition, recurrent taxes may be imposed on net wealth of individuals or corporations.[13] Many jurisdictions impose estate tax, gift tax or other inheritance taxes on property at death or gift transfer. Some jurisdictions impose taxes on financial or capital transactions. [edit]Property tax Main article: Property tax A property tax (or millage tax) is an ad valorem tax levy on the value of property that the owner of the property is required to pay to a government in which the property is situated. Multiple jurisdictions may tax the same
property. There are three general varieties of property: land, improvements to land (immovable man-made things, e.g. buildings) and personal property (movable things). Real estate or realty is the combination of land and improvements to land. Property taxes are usually charged on a recurrent basis (e.g., yearly). A common type of property tax is an annual charge on the ownership of real estate, where the tax base is the estimated value of the property. For a period of over 150 years from 1695 a window tax was levied in England, with the result that one can still see listed buildings with windows bricked up in order to save their owners money. A similar tax on hearths existed in France and elsewhere, with similar results. The two most common type of event driven property taxes are stamp duty, charged upon change of ownership, and inheritance tax, which is imposed in many countries on the estates of the deceased. In contrast with a tax on real estate (land and buildings), a land value tax is levied only on the unimproved value of the land ("land" in this instance may mean either the economic term, i.e., all natural resources, or the natural resources associated with specific areas of the Earth's surface: "lots" or "land parcels"). Proponents of land value tax argue that it is economically justified, as it will not deter production, distort market mechanisms or otherwise create deadweight losses the way other taxes do.[14] When real estate is held by a higher government unit or some other entity not subject to taxation by the local government, the taxing authority may receive a payment in lieu of taxes to compensate it for some or all of the foregone tax revenue. In many jurisdictions (including many American states), there is a general tax levied periodically on residents who own personal property (personalty) within the jurisdiction. Vehicle and boat registration fees are subsets of this kind of tax. The tax is often designed with blanket coverage and large exceptions for things like food and clothing. Household goods are often
exempt when kept or used within the household.[15] Any otherwise nonexempt object can lose its exemption if regularly kept outside the household.[15] Thus, tax collectors often monitor newspaper articles for stories about wealthy people who have lent art to museums for public display, because the artworks have then become subject to personal property tax.[15] If an artwork had to be sent to another state for some touchups, it may have become subject to personal property tax in that state as well.[15] [edit]Inheritance tax Main article: Inheritance tax Inheritance tax, estate tax, and death tax or duty are the names given to various taxes which arise on the death of an individual. In United States tax law, there is a distinction between an estate tax and an inheritance tax: the former taxes the personal representatives of the deceased, while the latter taxes the beneficiaries of the estate. However, this distinction does not apply in other jurisdictions; for example, if using this terminology UK inheritance tax would be an estate tax. [edit]Expatriation tax Main article: Expatriation tax An Expatriation Tax is a tax on individuals who renounce their citizenship or residence. The tax is often imposed based on a deemed disposition of all the individual's property. One example is theUnited States under the American Jobs Creation Act, where any individual who has a net worth of $2 million or an average income-tax liability of $127,000 who renounces his or her citizenship and leaves the country is automatically assumed to have done so for tax avoidance reasons and is subject to a higher tax rate.[16] [edit]Transfer tax Main article: Transfer tax
Historically, in many countries, a contract needed to have a stamp affixed to make it valid. The charge for the stamp was either a fixed amount or a percentage of the value of the transaction. In most countries the stamp has been abolished but stamp duty remains. Stamp duty is levied in the UK on the purchase of shares and securities, the issue of bearer instruments, and certain partnership transactions. Its modern derivatives, stamp duty reserve tax and stamp duty land tax, are respectively charged on transactions involving securities and land. Stamp duty has the effect of discouraging speculative purchases of assets by decreasing liquidity. In the United States transfer tax is often charged by the state or local government and (in the case of real property transfers) can be tied to the recording of the deed or other transfer documents. [edit]Wealth (net worth) tax Main article: Wealth tax Some countries' governments will require declaration of the tax payers' balance sheet (assets and liabilities), and from that exact a tax on net worth (assets minus liabilities), as a percentage of the net worth, or a percentage of the net worth exceeding a certain level. The tax may be levied on "natural" or legal "persons". An example is France's ISF. [edit]Taxes on goods and services [edit]Value added tax (Goods and Services Tax) Main article: Value added tax A value added tax (VAT), also known as Goods and Services Tax (G.S.T), Single Business Tax, or Turnover Tax in some countries, applies the equivalent of a sales tax to every operation that creates value. To give an example, sheet steel is imported by a machine manufacturer. That manufacturer will pay the VAT on the purchase price, remitting that amount to the government. The manufacturer will then transform the steel into a machine, selling the machine for a higher price to a wholesale distributor.
The manufacturer will collect the VAT on the higher price, but will remit to the government only the excess related to the "value added" (the price over the cost of the sheet steel). The wholesale distributor will then continue the process, charging the retail distributor the VAT on the entire price to the retailer, but remitting only the amount related to the distribution mark-up to the government. The last VAT amount is paid by the eventual retail customer who cannot recover any of the previously paid VAT. For a VAT and sales tax of identical rates, the total tax paid is the same, but it is paid at differing points in the process. VAT is usually administrated by requiring the company to complete a VAT return, giving details of VAT it has been charged (referred to as input tax) and VAT it has charged to others (referred to as output tax). The difference between output tax and input tax is payable to the Local Tax Authority. If input tax is greater than output tax the company can claim back money from the Local Tax Authority. [edit]Sales taxes Main article: Sales tax Sales taxes are levied when a commodity is sold to its final consumer. Retail organizations contend that such taxes discourage retail sales. The question of whether they are generally progressive or regressive is a subject of much current debate. People with higher incomes spend a lower proportion of them, so a flat-rate sales tax will tend to be regressive. It is therefore common to exempt food, utilities and other necessities from sales taxes, since poor people spend a higher proportion of their incomes on these commodities, so such exemptions make the tax more progressive. This is the classic "You pay for what you spend" tax, as only those who spend money on non-exempt (i.e. luxury) items pay the tax. A small number of U.S. states rely entirely on sales taxes for state revenue, as those states do not levy a state income tax. Such states tend to have a moderate to large amount of tourism or inter-state travel that occurs within
their borders, allowing the state to benefit from taxes from people the state would otherwise not tax. In this way, the state is able to reduce the tax burden on its citizens. The U.S. states that do not levy a state income tax are Alaska, Tennessee, Florida, Nevada, South Dakota, Texas,[17] Washington state, and Wyoming. Additionally, New Hampshire and Tennessee levy state income taxes only on dividends and interest income. Of the above states, only Alaska and New Hampshire do not levy a state sales tax. Additional information can be obtained at the Federation of Tax Administrators website. In the United States, there is a growing movement[18] for the replacement of all federal payroll and income taxes (both corporate and personal) with a national retail sales tax and monthly tax rebate to households of citizens and legal resident aliens. The tax proposal is named FairTax. In Canada, the federal sales tax is called the Goods and Services tax (GST) and now stands at 5%. The provinces of British Columbia, Saskatchewan, Manitoba, and Prince Edward Island also have a provincial sales tax [PST]. The provinces of Nova Scotia, New Brunswick, Newfoundland & Labrador, and Ontario have harmonized their provincial sales taxes with the GST—Harmonized Sales Tax [HST], and thus is a full VAT. The province of Quebec collects the Quebec Sales Tax [QST] which is based on the GST with certain differences. Most businesses can claim back the GST, HST and QST they pay, and so effectively it is the final consumer who pays the tax. [edit]Excises Main article: Excise Unlike an ad valorem, an excise is not a function of the value of the product being taxed. Excise taxes are based on the quantity, not the value, of product purchased. For example, in the United States, the Federal government imposes an excise tax of 18.4 cents per U.S. gallon (4.86¢/L) of gasoline, while state governments levy an additional 8 to 28 cents per U.S. gallon. Excises on particular commodities are frequently hypothecated. For example, a fuel excise (use tax) is often used to pay for public transportation,
especially roads and bridges and for the protection of the environment. A special form of hypothecation arises where an excise is used to compensate a party to a transaction for alleged uncontrollable abuse; for example, a blank media tax is a tax on recordable media such as CD-Rs, whose proceeds are typically allocated to copyright holders. Critics charge that such taxes blindly tax those who make legitimate and illegitimate usages of the products; for instance, a person or corporation using CD-R's for data archival should not have to subsidize the producers of popular music. Excises (or exemptions from them) are also used to modify consumption patterns (social engineering). For example, a high excise is used to discourage alcohol consumption, relative to other goods. This may be combined with hypothecation if the proceeds are then used to pay for the costs of treating illness caused by alcohol abuse. Similar taxes may exist on tobacco, pornography, etc., and they may be collectively referred to as "sin taxes". A carbon tax is a tax on the consumption of carbon-based nonrenewable fuels, such as petrol, diesel-fuel, jet fuels, and natural gas. The object is to reduce the release of carbon into the atmosphere. In the United Kingdom, vehicle excise duty is an annual tax on vehicle ownership. [edit]Tariff Main article: Tariff An import or export tariff (also called customs duty or impost) is a charge for the movement of goods through a political border. Tariffs discourage trade, and they may be used by governments to protect domestic industries. A proportion of tariff revenues is often hypothecated to pay government to maintain a navy or border police. The classic ways of cheating a tariff are smuggling or declaring a false value of goods. Tax, tariff and trade rules in modern times are usually set together because of their common impact on industrial policy, investment policy, and agricultural policy. A trade bloc is a group of allied countries agreeing to minimize or eliminate tariffs against trade with each other, and possibly to impose protective tariffs on imports
from outside the bloc. Acustoms union has a common external tariff, and the participating countries share the revenues from tariffs on goods entering the customs union. [edit]Other taxes [edit]License fees Occupational taxes or license fees may be imposed on businesses or individuals engaged in certain businesses. Many jurisdictions impose a tax on vehicles. [edit]Poll tax Main article: Poll tax A poll tax, also called a per capita tax, or capitation tax, is a tax that levies a set amount per individual. It is an example of the concept of fixed tax. One of the earliest taxes mentioned in the Bibleof a half-shekel per annum from each adult Jew (Ex. 30:11-16) was a form of poll tax. Poll taxes are administratively cheap because they are easy to compute and collect and difficult to cheat. Economists have considered poll taxes economically efficient because people are presumed to be in fixed supply. However, poll taxes are very unpopular because poorer people pay a higher proportion of their income than richer people. In addition, the supply of people is in fact not fixed over time: on average, couples will choose to have fewer children if a poll tax is imposed.[19][not in citation given] The introduction of a poll tax in medieval England was the primary cause of the 1381 Peasants' Revolt. Scotland was the first to be used to test the new poll tax in 1989 with England and Wales in 1990. The change from a progressive local taxation based on property values to a single-rate form of taxation regardless of ability to pay (the Community Charge, but more popularly referred to as the Poll Tax), led to widespread refusal to pay and to incidents of civil unrest, known colloquially as the 'Poll Tax Riots'. [edit]Other
Some types of taxes have been proposed but not actually adopted in any major jurisdiction. These include:
Bank tax Financial transaction taxes including currency transaction taxes
[edit]Descriptive labels given some taxes [edit]Ad valorem Main article: Ad valorem An ad valorem tax is one where the tax base is the value of a good, service, or property. Sales taxes, tariffs, property taxes, inheritance taxes, and value added taxes are different types of ad valorem tax. An ad valorem tax is typically imposed at the time of a transaction (sales tax or value added tax (VAT)) but it may be imposed on an annual basis (property tax) or in connection with another significant event (inheritance tax or tariffs). An alternative to ad valorem taxation is an excise tax, where the tax base is the quantity of something, regardless of its price. [edit]Consumption tax Main article: Consumption tax Consumption tax refers to any tax on non-investment spending, and can be implemented by means of a sales tax, consumer value added tax, or by modifying an income tax to allow for unlimited deductions for investment or savings. [edit]Environmental tax See also: Ecotax, Gas Guzzler Tax, and Polluter pays principle This includes natural resources consumption tax, greenhouse gas tax (Carbon tax), "sulfuric tax", and others. The stated purpose is to reduce the environmental impact by repricing. [edit]Fees and effective taxes
Governments may charge user fees, tolls, or other types of assessments in exchange of particular goods, services, or use of property. These are generally not considered taxes, as long as they are levied as payment for a direct benefit to the individual paying.[20] Such fees include:
Tolls: a fee charged to travel via a road, bridge, tunnel, canal, waterway or other transportation facilities. Historically tolls have been used to pay for public bridge, road and tunnel projects. They have also been used in privately constructed transport links. The toll is likely to be a fixed charge, possibly graduated for vehicle type, or for distance on long routes.
User fees, such as those charged for use of parks or other government owned facilities.
Ruling fees charged by governmental agencies to make determinations in particular situations.
Some scholars refer to certain economic effects as taxes, though they are not levies imposed by governments. These include:
Inflation tax: the economic disadvantage suffered by holders of cash and cash equivalents in one denomination of currency due to the effects of expansionary monetary policy[21]
Financial repression: Government policies such as interest rate caps on government debt, financial regulations such as reserve requirements and capital controls, and barriers to entry in markets where the government owns or controls businesses.[22]
[edit]History
Egyptian peasants seized for non-payment of taxes. (Pyramid Age) The first known system of taxation was in Ancient Egypt around 3000 BC 2800 BC in the first dynasty of the Old Kingdom.[23] The earliest and most widespread form of taxation was the corvée and tithe. The corvée was forced labour provided to the state by peasants too poor to pay other forms of taxation (labour in ancient Egyptian is a synonym for taxes).[24] Records from the time document that the pharaoh would conduct a biennial tour of the kingdom, collecting tithes from the people. Other records are granary receipts on limestone flakes and papyrus.[25] Early taxation is also described in the Bible. In Genesis (chapter 47, verse 24 - the New International Version), it states "But when the crop comes in, give a fifth of it to Pharaoh. The other four-fifths you may keep as seed for the fields and as food for yourselves and your households and your children". Joseph was telling the people of Egypt how to divide their crop, providing a portion to the Pharaoh. A share (20%) of the crop was the tax. Later, in the Persian Empire, a regulated and sustainable tax system was introduced by Darius I the Great in 500 BC;[26] the Persiansystem of taxation was tailored to each Satrapy (the area ruled by a Satrap or provincial governor). At differing times, there were between 20 and 30 Satrapies in the Empire and each was assessed according to its supposed productivity. It was the responsibility of the Satrap to collect the due amount and to send it to the emperor, after deducting his expenses (the expenses and the power of deciding precisely how and from whom to raise the money in the province, offer maximum opportunity for rich pickings). The quantities demanded from the various provinces gave a vivid picture of their economic potential. For instance, Babylon was assessed for the highest amount and for a startling mixture of commodities; 1,000 silver talents and four months supply of food for the army. India, a province fabled for its gold, was to supply gold dust equal in value to the very large amount of 4,680 silver talents. Egypt was known for the wealth of its crops; it was to be the granary of the Persian
Empire (and, later, of the Roman Empire) and was required to provide 120,000 measures of grain in addition to 700 talents of silver. This was exclusively a tax levied on subject peoples. Persians and Medes paid no tax, but, they were liable at any time to serve in the army.[27] The Rosetta Stone, a tax concession issued by Ptolemy V in 196 BC and written in three languages "led to the most famous decipherment in history— the cracking of hieroglyphics".[28] In India, Islamic rulers imposed jizya (a poll tax on non-Muslims) starting in the 11th century. It was abolished by Akbar. [edit]Taxation levels Numerous records of government tax collection in Europe since at least the 17th century are still available today. But taxation levels are hard to compare to the size and flow of the economy sinceproduction numbers are not as readily available, however. Government expenditures and revenue in France during the 17th century went from about 24.30 million livres in 1600-10 to about 126.86 million livres in 1650-59 to about 117.99 million livres in 170010 when government debt had reached 1.6 billion livres. In 1780–89, it reached 421.50 million livres.[29] Taxation as a percentage of production of final goods may have reached 15%–20% during the 17th century in places such as France, the Netherlands, and Scandinavia. During the war-filled years of the eighteenth and early nineteenth century, tax rates in Europe increased dramatically as war became more expensive and governments became more centralized and adept at gathering taxes. This increase was greatest in England, Peter Mathias and Patrick O'Brien found that the tax burden increased by 85% over this period. Another study confirmed this number, finding that per capita tax revenues had grown almost sixfold over the eighteenth century, but that steady economic growth had made the real burden on each individual only double over this period before the industrial revolution. Average tax rates were higher in Britain than France the years before the French Revolution, twice in per capita income comparison, but
they were mostly placed on international trade. In France, taxes were lower but the burden was mainly on landowners, individuals, and internal trade and thus created far more resentment.[30] Taxation as a percentage of GDP in 2003 was 56.1% in Denmark, 54.5% in France, 49.0% in the Euro area, 42.6% in the United Kingdom, 35.7% in the United States, 35.2% in Ireland, and among all OECD members an average of 40.7%.[31][32] [edit]Forms of taxation In monetary economies prior to fiat banking, a critical form of taxation was seigniorage, the tax on the creation of money. Other obsolete forms of taxation include:
Scutage, which is paid in lieu of military service; strictly speaking, it is a commutation of a non-tax obligation rather than a tax as such but functioning as a tax in practice.
Tallage, a tax on feudal dependents. Tithe, a tax-like payment (one tenth of one's earnings or agricultural produce), paid to the Church (and thus too specific to be a tax in strict technical terms). This should not be confused with the modern practice of the same name which is normally voluntary.
(Feudal) aids, a type of tax or due that was paid by a vassal to his lord during feudal times.
Danegeld, a medieval land tax originally raised to pay off raiding Danes and later used to fund military expenditures.
Carucage, a tax which replaced the danegeld in England. Tax farming, the principle of assigning the responsibility for tax revenue collection to private citizens or groups.
Socage, a feudal tax system based on land rent. Burgage, a feudal tax system based on land rent.
Some principalities taxed windows, doors, or cabinets to reduce consumption of imported glass and hardware. Armoires, hutches, and wardrobes were employed to evade taxes on doors and cabinets. In some circumstances, taxes are also used to enforce public policy like congestion charge (to cut road traffic and encourage public transport) in London. In Tsarist Russia, taxes were clamped on beards. Today, one of the most-complicated taxation systems worldwide is in Germany. Three quarters of the world's taxation literature refers to the German system.[citation needed]There are 118 laws, 185 forms, and 96,000 regulations, spending €3.7 billion to collect the income tax. Today, governments in more advanced economies in (i.e. Europe and North America) tend to rely more on direct taxes, while developing economies (i.e. India and several African countries) rely more on indirect taxes. [edit]Economic effects In economic terms, taxation transfers wealth from households or businesses to the government of a nation. The side-effects of taxation and theories about how best to tax are an important subject in microeconomics. Taxation is almost never a simple transfer of wealth. Economic theories of taxation approach the question of how to maximize economic welfare through taxation. [edit]Tax incidence Main article: Tax incidence See also: Effect of taxes and subsidies on price Law establishes from whom a tax is collected. In many countries, taxes are imposed on business (such as corporate taxes or portions of payroll taxes). However, who ultimately pays the tax (the tax "burden") is determined by the marketplace as taxes become embedded into production costs. Economic theory suggests that the economic effect of tax does not necessarily fall at the point where it is legally levied. For instance, a tax on employment paid by
employers will impact on the employee, at least in the long run. The greatest share of the tax burden tends to fall on the most inelastic factor involved—the part of the transaction which is affected least by a change in price. So, for instance, a tax on wages in a town will (at least in the long run) affect property-owners in that area.
Diagram illustrating taxes effect Depending on how quantities supplied and demanded vary with price (the "elasticities" of supply and demand), a tax can be absorbed by the seller (in the form of lower pre-tax prices), or by the buyer (in the form of higher posttax prices). If the elasticity of supply is low, more of the tax will be paid by the supplier. If the elasticity of demand is low, more will be paid by the customer; and, contrariwise for the cases where those elasticities are high. If the seller is a competitive firm, the tax burden is distributed over the factors of production depending on the elasticities thereof; this includes workers (in the form of lower wages), capital investors (in the form of loss to shareholders), landowners (in the form of lower rents), entrepreneurs (in the form of lower wages of superintendence) and customers (in the form of higher prices). To show this relationship, suppose that the market price of a product is $1.00, and that a $0.50 tax is imposed on the product that, by law, is to be collected from the seller. If the product has an elastic demand, a greater portion of the tax will be absorbed by the seller. This is because goods with elastic demand cause a large decline in quantity demanded for a small
increase in price. Therefore in order to stabilize sales, the seller absorbs more of the additional tax burden. For example, the seller might drop the price of the product to $0.70 so that, after adding in the tax, the buyer pays a total of $1.20, or $0.20 more than he did before the $0.50 tax was imposed. In this example, the buyer has paid $0.20 of the $0.50 tax (in the form of a post-tax price) and the seller has paid the remaining $0.30 (in the form of a lower pre-tax price).[33] [edit]Reduced economic welfare Most taxes have side effects that reduce economic welfare, either by mandating unproductive labor (compliance costs) or by creating distortions to economic incentives (deadweight loss andperverse incentives). [edit]Cost of compliance Although governments must spend money on tax collection activities, some of the costs, particularly for keeping records and filling out forms, are borne by businesses and by private individuals. These are collectively called costs of compliance. More complex tax systems tend to have higher compliance costs. This fact can be used as the basis for practical or moral arguments in favor of tax simplification (such as the FairTax or OneTax, and some flat tax proposals). [edit]Deadweight costs of taxation In the absence of negative externalities, the introduction of taxes into a market reduces economic efficiency by causing deadweight loss. In a competitive market the price of a particular economic good adjusts to ensure that all trades which benefit both the buyer and the seller of a good occur. The introduction of a tax causes the price received by the seller to be less than the cost to the buyer by the amount of the tax. This causes fewer transactions to occur, which reduces economic welfare; the individuals or businesses involved are less well off than before the tax. The tax burden and the amount of deadweight cost is dependent on the elasticity of supply and demand for the good taxed.
Most taxes—including income tax and sales tax—can have significant deadweight costs. The only way to avoid deadweight costs in an economy that is generally competitive is to refrain from taxes that change economic incentives. Such taxes include the land value tax,[34] where the tax is on a good in completely inelastic supply, a lump sum tax such as a poll tax (head tax) which is paid by all adults regardless of their choices. Arguably a windfall profits tax which is entirely unanticipated can also fall into this category. [edit]Perverse incentives Complexity of the tax code in developed economies offer perverse tax incentives. The more details of tax policy there are, the more opportunities for legal tax avoidance and illegal tax evasion. These not only result in lost revenue, but involve additional costs: for instance, payments made for tax advice are essentially deadweight costs because they add no wealth to the economy.Perverse incentives also occur because of non-taxable 'hidden' transactions; for instance, a sale from one company to another might be liable for sales tax, but if the same goods were shipped from one branch of a corporation to another, no tax would be payable. To address these issues, economists often suggest simple and transparent tax structures which avoid providing loopholes. Sales tax, for instance, can be replaced with a value added tax which disregards intermediate transactions. [edit]Reduced production If a tax is paid on outsourced services that is not also charged on services performed for oneself, then it may be cheaper to perform the services oneself than to pay someone else—even considering losses in economic efficiency.[35][36] For example, suppose jobs A and B are both valued at $1 on the market. And suppose that because of your unique abilities, you can do job A twice over (100% extra output) in the same effort as it would take you to do job B. But job B is the one that you need done right now. Under perfect division of
labor, you would do job A and somebody else would do job B. Your unique abilities would always be rewarded. Income taxation has the worst effect on division of labor in the form of barter. Suppose that the person doing job B is actually interested in having job A done for him. Now suppose you could amazingly do job A four times over, selling half your work on the market for cash just to pay your tax bill. The other half of the work you do for somebody who does job B twice over but he has to sell off half to pay his tax bill. You're left with one unit of job B, but only if you were 400% as productive doing job A! In this case of 50% tax on barter income, anything less than 400% productivity will cause the division of labor to fail. In summary, depending on the situation a 50% tax rate can cause the division of labor to fail even where productivity gains of up to 300% would have resulted. Even a mere 30% tax rate can negate the advantage of a 100% productivity gain.[37] [edit]Increased economic welfare [edit]Pigovian taxes The existence of a tax can increase economic efficiency in some cases. If there is a negative externality associated with a good, meaning that it has negative effects not felt by the consumer, then a free market will trade too much of that good. By taxing the good, the government can increase overall welfare as well as raising revenue. This type of tax is called a Pigovian tax, after economist Arthur Pigou. Possible Pigovian taxes include those on polluting fuels (like petrol), taxes on goods which incur public healthcare costs (such as alcohol or tobacco), and charges for existing 'free' public goods (like congestion charging) are another possibility. [edit]Reduced inequality
In theory, progressive taxation may have the effect of reducing economic inequality. This effect occurs even when the tax revenue isn't redistributed. [edit]Views on taxation [edit]Support for taxation Main article: Social contract Every tax, however, is, to the person who pays it, a badge, not of slavery, but of liberty. - Adam Smith (1776), Wealth of Nations[38] According to most political philosophies, taxes are justified as they fund activities that are necessary and beneficial to society. Additionally,progressive taxation can be used to reduce economic inequality in a society. According to this view, taxation in modern nationstates benefit the majority of the population and social development.[39] A common presentation of this view, paraphrasing various statements by Oliver Wendell Holmes, Jr. is "Taxes are the price of civilization".[40] It can also be argued that in a democracy, because the government is the party performing the act of imposing taxes, society as a whole decides how the tax system should be organized.[41] The American Revolution's "No taxation without representation" slogan implied this view. For traditional conservatives, the payment of taxation is justified as part of the general obligations of citizens to obey the law and support established institutions. The conservative position is encapsulated in perhaps the most famous adage of public finance, "An old tax is a good tax".[42] Conservatives advocate the "fundamental conservative premise that no one should be excused from paying for government, lest they come to believe that government is costless to them with the certain consequence that they will demand more government 'services'.".[43] Social democrats generally favor higher levels of taxation to fund public provision of a wide range of services such as universal health care and education, as well as the provision of a
range of welfare benefits.[44] As argued by Tony Crosland and others, the capacity to tax income from capital is a central element of the social democratic case for a mixed economy as against Marxist arguments for comprehensive public ownership of capital.[citation needed] Manylibertarians recommend a minimal level of taxation in order to
maximize the protection of liberty.[citation needed] Compulsory taxation of individuals, such as income tax, is often justified on grounds including territorial sovereignty, and the social contract. Defenders of business taxation argue that it is an efficient method of taxing income that ultimately flows to individuals, or that separate taxation of business is justified on the grounds that commercial activity necessarily involves use of publicly established and maintained economic infrastructure, and that businesses are in effect charged for this use.[45] Georgist economists argue that all of the economic rent collected from natural resources (land, mineral extraction, fishing quotas, etc.) is unearned income, and belongs to the community rather than any individual. They advocate a high tax (the "Single Tax") on land and other natural resources to return this unearned income to the state, but no other taxes. [edit]Opposition to taxation Main articles: Tax noncompliance and Taxation as theft Because payment of tax is compulsory and enforced by the legal system, some political philosophies view taxation as theft (or as slavery, or as a violation of property rights), or tyranny, accusing the government of levying taxes via force and coercive means.[46] Voluntaryists, individualist anarchists, objectivists, anarcho-capitalists, and libertarians see taxation as government aggression (see zero aggression principle). The view that democracy legitimizes taxation is rejected by those who argue that all forms of government, including laws chosen by democratic means, are fundamentally oppressive. According to Ludwig von Mises, "society as a whole" should not make such decisions, due to methodological
individualism.[47] Libertarian opponents of taxation claim that governmental protection, such as police and defense forces might be replaced by market alternatives such as private defense agencies, arbitration agencies or voluntary contributions.[48]Walter E. Williams, professor of economics at George Mason University, stated "Government income redistribution programs produce the same result as theft. In fact, that's what a thief does; he redistributes income. The difference between government and thievery is mostly a matter of legality."[49] Taxation has also been opposed by communists and socialists. Karl Marx assumed that taxation would be unnecessary after the advent of communism and looked forward to the "withering away of the state". In socialist economies such as that of China, taxation played a minor role, since most government income was derived from the ownership of enterprises, and it was argued by some that taxation was not necessary.[50] While the morality of taxation is sometimes questioned, most arguments about taxation revolve around the degree and method of taxation and associatedgovernment spending, not taxation itself. [edit]Theories on taxation [edit]Laffer curve Main article: Laffer curve In economics, the Laffer curve is a theoretical representation of the relationship between government revenue raised by taxation and all possible rates of taxation. It is used to illustrate the concept of taxable income elasticity (that taxable income will change in response to changes in the rate of taxation). The curve is constructed by thought experiment. First, the amount of tax revenue raised at the extreme tax rates of 0% and 100% is considered. It is clear that a 0% tax rate raises no revenue, but the Laffer curve hypothesis is that a 100% tax rate will also generate no revenue because at such a rate there is no longer any incentive for a rational taxpayer to earn any income, thus the revenue raised will be 100% of nothing. If both
a 0% rate and 100% rate of taxation generate no revenue, it follows from the extreme value theorem that there must exist at least one rate in between where tax revenue would be a maximum. The Laffer curve is typically represented as a graph which starts at 0% tax, zero revenue, rises to a maximum rate of revenue raised at an intermediate rate of taxation and then falls again to zero revenue at a 100% tax rate. One potential result of the Laffer curve is that increasing tax rates beyond a certain point will become counterproductive for raising further tax revenue. A hypothetical Laffer curve for any given economy can only be estimated and such estimates are sometimes controversial. The New Palgrave Dictionary of Economics reports that estimates of revenue-maximizing tax rates have varied widely, with a mid-range of around 70%.[51] [edit]Optimal tax Main article: Optimal tax Most governments take revenue which exceeds that which can be provided by non-distortionary taxes or through taxes which give a double dividend. Optimal taxation theory is the branch of economics that considers how taxes can be structured to give the least deadweight costs, or to give the best outcomes in terms of social welfare. The Ramsey problem deals with minimizing deadweight costs. Because deadweight costs are related to the elasticity of supply and demand for a good, it follows that putting the highest tax rates on the goods for which there is most inelastic supply and demand will result in the least overall deadweight costs. Some economists sought to integrate optimal tax theory with the social welfare function, which is the economic expression of the idea that equality is valuable to a greater or lesser extent. If individuals experience diminishing returns from income, then the optimum distribution of income for society involves a progressive income tax. Mirrlees optimal income tax is a detailed theoretical model of the optimum progressive income tax along these lines. Over the last years the validity of the theory of optimal taxation was discussed by many political
economists. Canegrati (2007) demonstrated that if we move from the assumption that governments do not maximise the welfare of society but the probability of winning elections, the tax rates in equilibrium are lower for the most powerful groups of society, instead of being the lowest for the poorest as in the optimal theory of direct taxation developed by Atkinson and Joseph Stiglitz. See Canegrati's formulae. [edit]See also Rwanda personal Income Tax Personal income tax rates in Rwanda are progressive to 30%. Basis – Residents are taxed on worldwide income; nonresidents are taxed only on Rwandan-source income. Foreign-source income derived by residents is subject to personal income tax in the same way as Rwandansource income. Residence – An individual is resident in Rwanda if he/she has a permanent residence or habitual domicile in Rwanda, if he/she stays in Rwanda for more than 183 days in a 12- month period or he/she is a Rwandan representing Rwanda abroad. Tax Filing status – No specific provisions apply. Taxable income – Employment income, including most employment benefits, is taxable. Taxation of Capital gains – Capital gains are taxable as ordinary income at the normal personal income tax rate. Tax Deductions and tax allowances – Tax deductions are available for such
items as retirement contributions made by the employer to the Rwanda Social Security Fund, pension payments made under the state social security system and some retirement contributions the employer pays for the employee and contributions by the employee.
Other taxes on individuals: Capital duty – No Stamp duty – No Capital acquisitions tax – No Net wealth/net worth tax – No Net wealth tax / net worth tax Inheritance/estate tax – No Inheritance tax / estate tax Real property tax – Tax is paid to municipal authorities and calculated according to the location and utilisation of the property. Social security contributions – The total contribution to the Rwanda Social Security Fund is 8% (5% by the employer and 3% by the employee). Rwanda Tax year – Rwanda tax year is the calendar year, although the taxpayer may request a different 12-month period. Filing of tax and tax payment – Tax on employment income is withheld by the employer under the PAYE system and remitted to the tax authorities. Penalties – Penalties, including fines and interest, apply for failure to comply. Rwanda Corporate Tax Company tax rate in Rwanda is 30% of taxable income with some discounts for registered investors based on the number of employees and the amount of income derived from the export of goods and services.
Residence – A company is resident if it is established according to Rwandan law or if its headquarters are in Rwanda. Basis – Residents are taxed on worldwide income; nonresidents are taxed on Rwandan source income. Foreign-source income derived by residents is subject to corporation tax in the same way as Rwandan-source income. Taxable income – Corporation tax is imposed on a company’s total income after deduction of normal business expenses. Taxation of dividends – Dividends received by a Rwandan-resident company from another Rwandan company are exempt from corporation tax; other dividends are subject to a withholding tax of 15%. Taxation of Capital gains – Capital gains are taxable as ordinary income at the standard rate of corporation tax. Losses – Losses may be carried forward for 5 tax periods. The carryback of losses is not permitted. Surtax – No Alternative minimum tax – No Foreign tax credit – Foreign tax paid may be credited against Rwandan tax on the same income but the credit is limited to the amount of Rwandan tax payable on the foreign income. Participation exemption – A company that transfers its assets to another
company is exonerated from tax in respect of capital gains and losses realised on the participation. A "participation" for these purposes means: a merger of 2 or more resident companies; the purchase or takeover of at least 50% of the shares in a resident company; the purchase of 50% or more of the assets and liabilities by a resident from another resident company; or the splitting of a resident company into 2 or more resident companies. Holding company regime – See under "Participation exemption". Tax Incentives – An investment allowance of 40% of the invested amount in new or used assets is available but the amount invested must be equal to RWF 30 million and the business assets must be held for at least 3 tax periods. The investment allowance is 50% for investment in rural areas and special activities as provided by the Investment Authority.
Withholding tax: Dividends – Dividends paid to another Rwandan company are exempt. Dividends paid to a nonresident or an individual are subject to a 15% withholding tax unless the rate is reduced under a tax treaty. Interest – Interest paid to a nonresident is subject to a 15% withholding tax unless the rate is reduced under a tax treaty. Royalties – Royalties paid to a nonresident are subject to a 15% withholding tax unless the rate is reduced under a tax treaty. Branch remittance tax – No
Other taxes on corporations: Capital duty – No Payroll tax – No Real property tax – No Stamp duty – No Transfer tax – No Social security contributions – The total contribution to the Rwanda Social Security Fund is 8% (5% by the employer and 3% by the employee). Other – A presumptive tax of 4% of annual turnover is applicable to taxpayers with an annual turnover less than RWF 20 million that opt for the regime.
Anti-avoidance rules: Transfer pricing – When independent parties deal with one another, the terms of trade are determined by market forces and may be presumed to be at arm’s length. However, for related party transactions, determination of the arm’s length price requires a comparison of the conditions in a "controlled transaction" against the conditions in a related party or uncontrolled transaction. Thin capitalisation – Interest on a loan between related parties that exceeds 4 times the amount of equity may not be deducted from taxable income unless the taxpayer is an individual. This rule does not apply to commercial banks and insurance companies.
Controlled foreign companies – No Disclosure requirements – No Rwanda Tax year – Rwanda tax year is the calendar year, although the taxpayer may request a different 12-month period. Consolidated returns – No consolidated tax returns allowed in Rwanda. Tax Filing requirements – Rwanda operates a self-assessment regime. Advance corporate tax is payable in 3 instalments. The tax return must be filed within 3 months of the calendar year end. Penalties – Interest is imposed for late payment of tax (0.83% per month) and fines and other penalties are imposed for late payment and understatements.
Rwanda vat (Value Added Tax) rates The standard VAT rate in Rwanda is 18%, with exemptions and zero rating available in certain cases. Taxable transactions – VAT is imposed on the sale of goods and the provision of services. VAT Registration – The registration threshold for VAT purposes is RWF 20 million of annual turnover. Voluntary registration is possible for taxpayers with turnover under the threshold.
Filing and VAT payment – Filing and payment occur on a monthly basis. Source: www.taxrates.cc
What is Tax ? Meaning and Definition ↓
The tax revenue is the most important source of public revenue. A tax is a compulsory payment levied by the government on individuals or companies to meet the expenditure which is required for public welfare. According to Hugh Dalton, "a tax is a compulsory contribution imposed by a public authority, irrespective of the exact amount of service rendered to the taxpayer in return, and not imposed as penalty for any legal offence."
What are Canons of Taxation ?
Canons of Taxation are the main basic principles (i.e. rules) set to build a 'Good Tax System'. Canons of Taxation were first originally laid down by economist Adam Smith in his famous book "The Wealth of Nations". In this book, Adam smith only gave four canons of taxation. These original four canons are now known as the "Original or Main Canons of Taxation". As the time changed, governance expanded and became much more complex than what it was at the Adam Smith's time. Soon a need was felt by modern economists to expand Smith's principles of taxation and as a response they put forward some additional modern canons of taxation.
Adam Smith's Four Main Canons of Taxation ↓ A good tax system is one which is designed on the basis of an appropriate set of principles (rules). The tax system should strike a balance between the interest of the taxpayer and that of tax authorities. Adam Smith was the first economist to develop a list of Canons of Taxation. These canons are still regarded as characteristics or features of a good tax system. Adam Smith gave following four important canons of taxation.
1. Canon of Equity
The principle aims at providing economic and social justice to the people. According to this principle, every person should pay to the government depending upon his ability to pay. The rich class people should pay higher taxes to the government, because without the protection of the government authorities (Police, Defence, etc.) they could not have earned and enjoyed their income. Adam Smith argued that the taxes should be proportional to income, i.e., citizens should pay the taxes in proportion to the revenue which they respectively enjoy under the protection of the state.
2. Canon of Certainty
According to Adam Smith, the tax which an individual has to pay should be certain, not arbitrary. The tax payer should know in advance how much tax he has to pay, at what time he has to pay the tax, and in what form the tax is to be paid to the government. In other words, every tax should satisfy the canon of certainty. At the same time a good
tax system also ensures that the government is also certain about the amount that will be collected by way of tax.
3. Canon of Convenience
The mode and timing of tax payment should be as far as possible, convenient to the tax payers. For example, land revenue is collected at time of harvest income tax is deducted at source. Convenient tax system will encourage people to pay tax and will increase tax revenue.
4. Canon of Economy
This principle states that there should be economy in tax administration. The cost of tax collection should be lower than the amount of tax collected. It may not serve any purpose, if the taxes imposed are widespread but are difficult to administer. Therefore, it would make no sense to impose certain taxes, if it is difficult to administer.
Additional Canons of Taxation ↓
Activities and functions of the government have increased significantly since Adam Smith's time. Government are expected to maintain economic stability, full employment, reduce income inequality & promote growth and development. Tax system should be such that it meets the requirements of growing state activities. Accordingly, modern economists gave following additional canons of taxation.
5. Canon of Productivity
It is also known as the canon of fiscal adequacy. According to this principle, the tax system should be able to yield enough revenue for the treasury and the government should have no need to resort to deficit financing. This is a good principle to follow in a developing economy.
6. Canon of Elasticity
According to this canon, every tax imposed by the government should be elastic in nature. In other words, the income from tax should be capable of increasing or decreasing according to the requirement of the country. For example, if the government needs more income at time of crisis, the tax should be capable of yielding more income through increase in its rate.
7. Canon of Flexibility
It should be easily possible for the authorities to revise the tax structure both with respect to its coverage and rates, to suit the changing requirements of the economy. With changing time and conditions the tax system needs to be changed without much difficulty. The tax system must be flexible and not rigid.
8. Canon of Simplicity
The tax system should not be complicated. That makes it difficult to understand and administer and results in problems of interpretation and disputes. In India, the efforts of the government in recent years have been to make the system simple.
9. Canon of Diversity
This principle states that the government should collect taxes from different sources rather than concentrating on a single source of tax. It is not advisable for the government to depend upon a single source of tax, it may result in inequity to the certain section of the society; uncertainty for the government to raise funds. If the tax revenue comes from diversified source, then any reduction in tax revenue on account of any one cause is bound to be small.
Requirement of a Good Tax Structure / System ↓
The tax structure is a part of economic organisation of a society and therefore fit in its overall economic environment. No tax system that does not satisfy these basic condition can be termed a good one. However, the state should pursue mainly following principles in structuring its tax system :1. The primary aim of the tax should be to raise revenue for public services. 2. People should be asked to pay taxes according to their ability to pay and assessment of their taxable capacity should be made primarily on the basis of income and property.
3. Tax should not be discriminatory in any aspect between individuals and also between various groups.
Decentralised Taxes The law no 17/2002 of 10th May 2002 authorizes Kigali City and other districts to collect property tax, trading license and rental income tax. There are other duties and fees charged in accordance with the law no 28/2000 of 15/10/2001 as well as mayor’s tariff of 23/07/1996 that is still applicable. This however, raised public concern and confusion even before districts collected the above fiscal decentralized taxes. Fiscal decentralization was done in line with power decentralization or promotion of economic development in districts and towns. According to law No. 17/2002 article 5, any house and land registered whether in use or not must pay property tax. The district, town or city councils of the respective areas will determine the rates. The above mentioned article is supposedly to compensate for the abolished poll tax of Rwf 400 per adult person. For trade license, it varies depending on the type of activity and is fixed every year by the districts or towns but should not exceed Rwf 2000. Regarding the rental income tax, under articles 54-65, law no 17/2002 of 10/05/2002 establishing the source of revenue for districts and towns and its management, revenue derived from rent of buildings and land irrespective of their beneficiaries residence is taxable. Tax on rental income is among the taxes the central government transferred to the districts and towns. Net taxable income is obtained by deducting from gross income expenses incurred by the owner on maintenance amounting to 50% of the gross revenue.
In case a taxpayer built a house on loan and has a proof of subsidizing that loan, the net revenue is obtained by deducting from the gross revenue expenses incurred on rented house, which amounts to 30% of gross revenue plus interest of the bank. According to statistics obtained from RRA, the above decentralized taxes may generate more if properly handled by districts and towns in a convenient and flexible manner, thus satisfying their needs. Property Tax The following constitute the base and the rates of property tax. Because of the decentralisation policy, the collection and administering of these taxes has been vested in local authorities (Provinces and Districts). Under law No. 17/2002 of 10/05/02, property tax based on sources listed as 4 and 5 below as also provided by the decree of December 28, 1973 modified and completed to date remains under the jurisdiction of the Central Government. 1st base: Occupied houses
The tax on the floor of houses is fixed per square meter Location Kigali Other urban areas Trading centers Other places Rates of tax/ square meter 50Frw < 210 Frw 50 Frw < 130 Frw 25 Frw < 96 Frw 5 Frw < 55 Frw
Under article 15 of the above law, if one builds a storied house, he/she will have his/her tax rate rates reduced by 50% for the 1st floor constructed and from the 2nd floor upwards, his/her tax will be reduced by 75% while for each additional floor built upwards his/her tax will be reduced by 100%. If one builds an underground house, he/she is exempted from the tax. The District, town or city Council fixes the actual tax rate in accordance with the provisions of article 6 of the above law.
2nd
base:
Registered
land
not
yet
developed.
Tax on unused registered or unregistered plots whether being subject to a long term bail contract, rental contract or leased is calculated on the basis of square meters. Tax on unbuilt plots is fixed by the District, Town or City of Kigali as follows: Location Kigali City Other urban areas Trading centers Rates of tax/ square meter 20 Frw < 50 Frw 10 Frw < 20Frw 1 Frw < 10 Frw
Rural areas the tax is determined by the district or town council but it should not exceed 1000 Frw per hectare. If the taxpayer owns more than 20 hectares, he/she is taxed at a rate ranging from 1001 Frw to 2000 Frw for every additional hectare, the first being exempted from tax and fractions of hectares being not considered Under article 18 of law No.17/2002 of 10/05/02, the following are exempted from the fixed asset tax: a) land that is exclusively used for educational, medical, research and sporting activities which are proved not to be profit driven;
b) land on which Government, District and town infrastructure are affected or are to be affected; c) land used by diplomatic missions in Rwanda if their countries do not levy tax on land used by Rwandan diplomatic missions;
d) land used for charitable activities.
Rental Income
Tax on rent is charged on income generated from rented houses and located in Rwanda irrespective of the country of their benefiaries residence or home. This tax is charged on profit on rented houses and land and rennet profit of a person who rents out any assets or part of it. Those liable to pay tax are: (i) The owner of the goods, possessor or usufructuary of the fixed assets; (ii) The beneficiary of the net profit from rental income of land and buildings Those exempted are: (i) Houses or buildings of the Government, province/ city of Kigali, Districts or towns and public institutes with exception of those meant for commercial activity; (ii) Interests on rent obtained from any income generating activity on corporate tax that are exempted to rent interest. Tax rates Amount of income in frw___________ Rate From From From From From 0 60,001 180,001 300,001 600,001 to to to 60,000 to to 600,000 ________________________0% 180,000___________________10% 300,000__________________15% _________________ 20%
1,000,000
_______________25%
Above 1,000,000 _______________________30% Note that a copy of rent contract is submitted to district or town Administration in the same time with the income tax declaration.
The tax on rent income together with tax declaration is submitted to Tax collector of the district or town not later than 31st March of the following year in which interests are obtained.
Business Licences Under articles 44 to 53 of law No.17/2002 of 10/05/02 establishing the sources of revenue for districts and towns and its management, the duty for Licence to carry out trade or profession is payable each year by natural persons that normally carry out an activity for gain on a non-salaried basis and by corporate person on organisation that are liable to pay corporate taxes. The tax must be paid in full before starting the activity for which it is paid . For on going business, the duty is paid by the 1st quarter of every year. The tax varies according to the type of activity. The tax is determined according to where the taxpayer is operating or to the place of his/her usual residence. However, there are exemptions from trading Licence requirement including the following: The State of Rwanda, its Provinces and Districts and towns when they carry out noneprofit making activities; Corporate persons or organisation that are exempt from corporate taxes in accordance with articles 5 of the law on the code of direct taxes on various profits and professional income; Natural or corporate persons who are engaged in Agricultural or livestock activity. Fixing trading Licence The trading Licence is determined is determined by the basic Licence ―P‖ which may vary as specified by article 47 of law No.17/2002 by taking into account the type of
activity and where it is operated. The basic trading licence is fixed every year by the council of the district, town or Kigali city where taxpayers are based but it can not exceed 2000 Frw. The District, Town or Kigali city specifies each year the location to be taken as rural or urban area.The duty sticker issued shall be posted in plain view at the entrance to the establishment where the operations to which it relates are carried on or on the vehicle for which it is issued or worn, in plain view by the person responsible for collecting receipts. Trade licence is charged on activities as follows: Each district or town fixes the rate of the tax on rent in accordance with the provisions of this article. The estimated rates can not exceed these shown in the scale below Base P without scale who do use PA 1PA 2PA 2PA Rural Area
Type of activity A)Vendors shops,small technicians not
Town
City of Kigali
machines,transporters of people and property on motorcycle B)Traders and 5PB 10PB 20PB
technicians who use PB machines C)Any transporter not mentioned under A PC
10PC on 10PC each car 5PD each car 30PD
on 10PC on each car 100PD
D)Hotel business self PD
employed E)Professinal taxpayer services rendered to PE others and the like F)Industries,imports and export business G)Insurance,banking and the like PF 120PF 120PF 120PF 10PE 20PE 20PE
PG
30PG
100PG
100PG
A copy of the rent contract is submitted to the district so as to allow it to know and control the fixed rates.
Tax services Welcome to Tax Services Section Domestic Tax Department (DTD) was formed in April 2006 in order to create a onestop-shop highly efficient and customer oriented tax office. The basic objective was to increase and coordinate control over the largest taxpayers, improve large taxpayers’ compliance and revenue yield to the Government. The LTO accounts for over 50% of total RRA revenue collections. The Department is comprised of two offices i.e Large Taxpayer Office (LTO) and Small and Medium Taxpayers Office (SMTO). Strategic objectives In line with the above-mentioned mission, DTD has identified its strategic aims as being: • To minimise revenue loss through enhanced internal controls
• To provide efficient and effective services to clients and other stakeholders;
•
To
enhance
capacity
of
the
staff
• To separate medium taxpayers from Small ones with an aim of maximising revenues. Concept, Nature and Characteristics of Taxation and Taxes. Meaning of Taxation Taxation is the inherent power of the state, acting through the legislature, to impose and collect revenues to support the government and its recognized objects. Simply stated, taxation is the power of the State to collect revenues for public purpose. Purpose of Taxation Primary Purpose - is to provide funds or property with which the government discharges its appropriate functions for the protection and general welfare of the its citizens. Non Revenue Objectives Aside from purely financing government operational expenditures, taxation is also utilized as a tool to carry out the national objective of social and economic development. 1. to strengthen anemic enterprises by granting them tax exemptions or other conditions or incentives for growth; 2. to protect local industries against foreign competition by increasing local import taxes; 3. as a bargaining tool in trade negotiations with other countries; 4. to counter the effects of inflation or depression; 5. to reduce inequalities in the distribution of wealth;
6. to promote science and invention, finance educational activities or maintain and improve the efficiency of local police forces; 7. to implement police power and promote general welfare. Meaning of Taxes Taxes are enforced proportional contributions from persons and property levied by the lawmaking body of the state by virtue of its sovereignty for the support of the government and all public needs. Tax in a general sense, is any contribution imposed by the government upon individuals for the use and service of the state, whether under the name of toll, tribute, impost, duty, custom, excise, subsidy, aid, supply or other name. Tax, in its essential characteristics , is not a debt. Essential characteristics of tax. 1. it is an enforced contribution 2. it is generally payable in money. 3. It is proportionate in character, usually based on the ability to pay 4. it is levied on persons and property within the jurisdiction of the state 5. it is levied pursuant to legislative authority, the power to tax can only be exercised by the law making body or congress 6. it is levied for public purpose 7. it is commonly required to be paid a regular intervals.
Decentralised Taxes The law no 17/2002 of 10th May 2002 authorizes Kigali City and other districts to collect property tax, trading license and rental income tax. There are other duties and fees
charged in accordance with the law no 28/2000 of 15/10/2001 as well as mayor’s tariff of 23/07/1996 that is still applicable. This however, raised public concern and confusion even before districts collected the above fiscal decentralized taxes. Fiscal decentralization was done in line with power decentralization or promotion of economic development in districts and towns. According to law No. 17/2002 article 5, any house and land registered whether in use or not must pay property tax. The district, town or city councils of the respective areas will determine the rates. The above mentioned article is supposedly to compensate for the abolished poll tax of Rwf 400 per adult person. For trade license, it varies depending on the type of activity and is fixed every year by the districts or towns but should not exceed Rwf 2000. Regarding the rental income tax, under articles 54-65, law no 17/2002 of 10/05/2002 establishing the source of revenue for districts and towns and its management, revenue derived from rent of buildings and land irrespective of their beneficiaries residence is taxable. Tax on rental income is among the taxes the central government transferred to the districts and towns. Net taxable income is obtained by deducting from gross income expenses incurred by the owner on maintenance amounting to 50% of the gross revenue. In case a taxpayer built a house on loan and has a proof of subsidizing that loan, the net revenue is obtained by deducting from the gross revenue expenses incurred on rented house, which amounts to 30% of gross revenue plus interest of the bank. According to statistics obtained from RRA, the above decentralized taxes may generate more if properly handled by districts and towns in a convenient and flexible manner, thus satisfying their needs.
Types of Excise Tax Taxable goods and services Consumption tax is levied on the following locally manufactured products: Beers, lemonades, cigarettes, wines, spirits and mineral water made in Rwanda and telephone communication supplied by telephone communication providers operating in Rwanda are liable to Consumption tax (Excise Duty). Consumption tax shall be levied on the following products at the corresponding rates: Product_________________Tax rate Juice Soda Mineral Beer Wine___________________ Brandies, Cigarettes Telephone Fuel gas powdered Vehicles capacity Vehicles capacity Vehicles of of oil, fuel milk with above with between with 1500 and an 2500 an 2500 cc__ liquors and ______________ Communication__ (excluding and lubricants__ _________ an cc __ whiskyfrom and fruits___________ Lemonade_______ Water____________ ___________________ 5% 39% 10% 60% 70% 70% 150% 5% benzene), 76% 10% engine 15% engine 10% engine
capacity of less than 1500cc _________ 5% The taxable value on locally manufactured products is calculated according to selling price exclusive of taxes. The tax shall be payable when the taxable products are cleared
out of the factory for consumer use in case of locally manufactured products and when the taxable service provided is telecommunication services. Declaration and payment Factories making beers, lemonades, cigarettes, wines, spirits, juices and mineral water shall file, for each period of ten days a statement concerning excisable goods cleared out of the factory for consumer use. For purposes of implementing the Excise Duty Law, a month is divided into the following three periods: 1◦ 2◦ from from 1st 11th to to 20th 10th of of every every month month; and;
3◦ from 21st towards the end of the month. A taxpayer is required to file his or her declaration The Declaration shall be accompanied by proof of Payment of the taxes due to the collector of the tax or his representative with in five days following the declaration period. The law N° 26/2006 of 27/05/2006 determining and establishing consumption tax on some imported and locally manufactured products provide penalties to taxpayers to fail to observe the required provisions.
Types of withholding taxes Withholding Tax on other payments A withholding tax of fifteen (15%) percent is levied on the following payments made by resident individuals or resident entities including tax-exempt entities: 1° 2° dividends, except those governed by Article 45 of this law;
interests;
3° 4° service fees including management and technical
royalties; service fees;
5° performance payments made to an artist, a musician or an athlete irrespective of whether paid directly or through an entity that is not resident in Rwanda; 6° lottery and other gambling proceeds. The withholding agent is required to file a tax declaration based on procedures prescribed by the Commissioner General and transmit the tax withheld to the Tax Administration according to paragraph one of this Article within fifteen (15) working days after the tax is withheld. Paragraphs 1 and 2 of this Article are also applicable to non-resident individuals and non-resident entities for such payments that can be allocated to a permanent establishment which that person maintains in Rwanda. Withholding Tax on Imports and Public Tenders A withholding tax of five percent (5%) of the value of goods imported for commercial use shall be paid at custom on the CIF (cost insurance and freight value) value before the goods are released by customs. A withholding tax of three percent (3%) on the sum of invoice, excluding the value added tax, is retained on payments Or by public institutions to those who supply goods and services based on public tenders. The following taxpayers are exempt from withholding tax mentioned in paragraph one and 1° those 2 whose business of profit is this exempt from Article: taxation;
2° those who have tax clearance certificate issued by the Commissioner General. The Commissioner General issues a tax clearance certificate to taxpayers who have filed their tax declarations on their business activities; paid the tax due on a regular basis, and have no tax arrears. The certificate is valid in the year in which it was issued.
The Commissioner General may revoke a tax clearance certificate at any time if the conditions required in paragraph 4 of this Article are not fulfilled.
Domestic Taxes and Rates Here are different sorts of Domestic Taxes: Value Excise Withholding Pay Corporate Personal As You Income Income Earn Tax Tax Added Tax (VAT); Tax; Taxes; (PAYE); (CIT); (PIT);
Forfait on Turnover imputed (PIT
Withholding tax, also called retention tax, is a government requirement for the payer of an item of income to withhold or deduct tax from the payment, and pay that tax to the government. In most jurisdictions, withholding tax applies to employment income. Many jurisdictions also require withholding tax on payments of interest or dividends. In most jurisdictions, there are additional withholding tax obligations if the recipient of the income is resident in a different jurisdiction, and in those circumstances withholding tax sometimes applies to royalties, rent or even the sale of real estate. Governments use withholding tax as a means to combat tax evasion, and sometimes impose additional withholding tax requirements if the recipient has been delinquent in filing tax returns, or in industries where tax evasion is perceived to be common. Typically the withholding tax is treated as a payment on account of the recipient's final tax liability. It may be refunded if it is determined, when a tax return is filed, that the recipient's tax liability to the government which received the withholding tax is less than the tax withheld, or additional tax may be due if it is determined that the recipient's tax liability is more than the
withholding tax. In some cases the withholding tax is treated as discharging the recipient's tax liability, and no tax return or additional tax is required. The amount of withholding tax on income payments other than employment income is usually a fixed percentage. In the case of employment income the amount of withholding tax is often based on an estimate of the employee's final tax liability, determined either by the employee or by the government. An excise or excise tax (sometimes called a duty of excise special tax) is an inland tax on the sale, or production for sale, of specific goods or a tax on a good produced for sale, or sold, within a country or licenses for specific activities. Excises are distinguished from customs duties, which are taxes on importation. Excises are inland taxes, whereas customs duties are border taxes. An excise is considered an indirect tax, meaning that the producer or seller who pays the tax to the government is expected to try to recover or shift the tax by raising the price paid by the buyer. Excises are typically imposed in addition to another indirect tax such as a sales tax or value added tax (VAT). In common terminology (but not necessarily in law), an excise is distinguished from a sales tax or VAT in three ways: (i) an excise typically applies to a narrower range of products; (ii) an excise is typically heavier, accounting for a higher fraction of the retail price of the targeted products; and (iii) an excise is typically a per unit tax, costing a specific amount for a volume or unit of the item purchased, whereas a sales tax or VAT is an ad valorem tax and proportional to the price of the good. Typical examples of excise duties are taxes on gasoline and other fuels, and taxes on tobacco and alcohol (sometimes referred to as sin tax).
A value added tax (VAT) is a form of consumption tax. From the perspective of the buyer, it is a tax on the purchase price. From that of the seller, it is a tax only on the value added to a product, material, or service, from an accounting point of view, by this stage of its manufacture or distribution. The manufacturer remits to the government the difference between these two
amounts, and retains the rest for themselves to offset the taxes they had previously paid on the inputs. The value added to a product by a business is the sale price charged to its customer, minus the cost of materials and other taxable inputs. A VAT is like a sales tax in that ultimately only the end consumer is taxed. It differs from the sales tax in that, with the latter, the tax is collected and remitted to the government only once, at the point of purchase by the end consumer. With the VAT, collections, remittances to the government, and credits for taxes already paid occur each time a business in the supply chain purchases products. CHAPTER FIVE: FISCAL OPERATIONS OF THE GOVERNMENT
5.1: Meaning of fiscal policy Etymologically, the term fiscal has been derived from the Greek word “fisc” meaning basket to symbolise the public purse. Fisc thus refers to the treasury. Fiscal policy therefore means the policy related to the treasury of the government. Fiscal policy is the economic term that defines the set of principles and decisions of a government in setting the level of public expenditure and how that expenditure is funded. Generally fiscal policy and monetary policy are the macroeconomic tools that governments have at their disposal to manage the economy. Fiscal policy is the deliberate and thought out change in government spending, government borrowing or taxes to stimulate or slow down the economy. It contrasts with monetary policy, which describes policies concerning the supply of money to the economy. Fiscal policy is described as being neutral, expansionary, or contractionary. An expansionary fiscal policy occurs when the government lowers taxes and/or increases spending; thus increasing output (national income). A decrease in government purchases or an increase in taxes shifts the aggregate demand curve to the left. A contractionary fiscal policy will constrict the economy's overall growth. 5.2: Objectives of fiscal policy
As stated above, in modern economy financial operations of the government resolves to influence the overall economic activity, employment, prices, and the growth process of the system as whole. The major fiscal functions of the budgetary policy of the government are: The allocation of resources Public Economics: Lecture Notes prepared by Mr. Ildephonse MUSAFIRI Page 43
44 Through budgetary means the government can play an important part in allocating productive resources from private to public use and vice versa. Fiscal policy in essence lies at the heart of government’s allocation function. For instance through budgetary operations the government can ensure the provision of public goods, such as maintenance of law and order, defence etc. It should be noted that resources are scarce; hence optimum allocation of such resources becomes a primary objective of fiscal policy. Public expenditure can be undertaken in desired areas where private resources will not flow. Similarly tax exemption and concessions can help to attract resources towards needy sectors. So also high taxation will drive away resources from such fields. Equitable distribution of wealth and income The modern economy government intends to secure a fair distribution of the country’s income and wealth among citizens. For this reason, a government tends to impose higher or progressive taxes upon the richer sections so that there is equity in taxation and channelises public finance. Extreme inequalities of income and wealth are discerned everywhere but are harmful to economic development. Hence redistributive public expenditure and redistributive tax policy can reduce such inequality in income and wealth. Further redistributive public expenditure policy requires that government should spend in a way which would benefit low income groups. Public expenditure on free education, welfare schemes help to improve the standard of living as well as the productive capacity of the poorer people. Price stability (The stabilization function) It refers to the maintenance of a high level of resource utilisation and stability of the value of money. In other words, price stability and full employment are among the important objects of
the government in modern public finance. Generally price stability is an important objective for all countries. Fiscal policy should aim at avoiding both recessions and inflation. Further mild rise in price is considered as an incentive for capital formation and investment but high rate of inflation would remove gains of development. Therefore fiscal policy regulates price where market mechanisms can not afford. Public Economics: Lecture Notes prepared by Mr. Ildephonse MUSAFIRI Page 44
To accelerate the rate of economic growth 45 It refers to the use of budget and fiscal instruments for the promotion of economic growth and development in the economy (especially in developing economies). It stresses the need for a growth oriented or developmental public expenditure in a developing economy. In that all three fiscal instruments of taxation, public expenditure and public borrowing should be used with to encourage production, consumption and distribution of goods. They should be aimed at increasing national income as well as percapita income. Full employment This is the common objective of fiscal policy in all countries. Hence fiscal policy should aim at reducing the extent of unemployment and under-employment. Public expenditure on social overheads, public sector enterprises all help to create employment opportunities. Tax holidays and subsidies to start industries in rural areas help to generate employment. Also public expenditure for public works like road construction and other construction activities are recommended to reduce unemployment during depression period, since helps to compensate for the deficiency in private sector. To reduce regional imbalances In a developing countries especially, regional imbalances can hinder progress. Thus fiscal policy can be geared to develop such regions where development is lacking. Tax concessions may be given to industries started in backward areas. 5.3: Fiscal Instruments In order for the government to accomplish its duties, it uses fiscal instruments, which portrays its functions. Fiscal instruments includes: public revenues, public expenditures and public
debts. The current chapter is about the first instrument: Public revenues. 5.4. Public Revenue 5.4.1. Definition Public Economics: Lecture Notes prepared by Mr. Ildephonse MUSAFIRI Page 45
46 Any public authority or government needs income for the performance of a variety of functions and meeting its expenditure. Public revenues or incomes are in two folds, such as: public receipts which may result from all sources of revenues such as borrowing or sales of capital, where as public revenue entails only those sources of income of the public authority which are ordinarily known. The necessity of public revenue is of course, due to the needs of public expenditure. The size of public revenue is thus determined by the volume of public expenditure. 5.4.2. Tax revenues In wide knowledge public revenues comes from taxes, which basically constitutes a large portion of public finances internally. The amount of taxes collected indicates the size of the economy. Generally speaking, taxes are compulsory contributions imposed by the government on its citizens to meet its general expenses incurred for the common good, without any corresponding benefits to the tax-payer. In other words taxes are distinguished from other government charges, in that there is absence of quid pro quo between the tax-payer and the public authority. There are also non-tax revenues. These include: ►Administrative revenue: public authorities can raise some funds in form of fees (which are charges imposed by the government for rendering service to the beneficiaries). Also include fines and penalties (are levied and collected from offenders of laws as punishment, special assessments (is a compulsory contribution levied in proportion to the social benefits derived to defray the cost of a specific improvement to property undertaken in the public interests). ► Profits of state Enterprises: profits of state undertakings are an important source of revenue these days owing to the expansion of the public sector. These may rise from services and
investments done by the government such as state transport, and other commercial undertakings. Earnings from the state enterprises depend upon the prices charged by them for
their goods and services and surplus derived therefrom. Thus, the pricing of state undertakings should be self-supporting and reasonably profit oriented. ► Gifts and grants: these form generally a very small part of public revenue. These are purely voluntary contributions. In modern times, however grants from one government to another have a greater importance. Local governments receive grants from state governments. When grants are by one country’s government to another country’s government, it is called foreign aid. It should be noted that deep knowledge about taxes and its form are pre-requisite to understanding the course of public finance. Given the duties of the government in modern world, taxes are regarded as the central part of public finance, that is through out the world, it is the biggest source of public revenue. Governments devise means to generate resources within their economies in order to avoid debts and its burdens. The following below is the theory underlying taxation policy. 5.4.3 Canons and characteristics of tax system Canons of taxation refer to the administrative aspect of a tax. They relate to the rate, amount, and method of levy and collection of a tax. In other words the characteristics or qualities which a tax must possess are described as canons of taxation. It must be noted that canons refer to qualities of an isolated tax and not the tax system as a whole. Qualities of a good tax system are described as the characteristics of a good tax system, which entails a proper combination of all kinds of taxes having different canons. In short, canons of taxation imply attributes of a good tax, whereas characteristics of a good tax system signify the quality of the tax system taken as a whole. On the administrative side of the public finance there four canons of taxation: The canon of equity or equality: this canon stresses that; there should be social justice in the allocation of tax burden. Normally taxation imposes a burden upon taxpayers. This entails money burden and real burden of taxation which may be direct and /or indirect. The direct
money burden of taxation refers to the amount of money income the people have to pay as Public Economics: Lecture Notes prepared by Mr. Ildephonse MUSAFIRI Page 47
48 taxes to the government. Generally it decreases the disposable money income of the people. The direct real burden however means the amount of sacrifice (disutility) involved in parting with purchasing power in the tax payment. Hence this canon spells that the burden of taxation must be distributed equally or equitably in relation to the ability of tax-payers. Further equity or social justice demands that the rich people should bear a heavier burden of tax and the poor lesser burden. The canon of Certainty: taxation must have an element of certainty. Accordingly, the tax which each individual is bound to pay ought to be certain and not arbitrary. In that the time to pay, the manner of payment, the amount to be paid ought to be clear and plain to the contributor and to every other person. The certainty aspect of taxation are: certainty of effective incidence that is who shall bear the tax burden, certainty of liability that is as to how much shall be the tax amount payable in a particular period. And certainty of revenue that is the government should be certain about the estimated collection f revenue from a given tax levied. The canon of economy: this principle suggests that the cost of collecting a tax should not be exorbitant but the minimum. Also there should be economy in sacrifice involved in the payment of tax by the tax-payer. Generally it supports the principle of minimum aggregate sacrifice in taxation. Canon of convenience: according to this canon, tax should be collected in a convenient manner from the tax-payer. Adam smith stresses that, “every tax ought to be levied at the time or in the manner in which it is most likely to be convenient for the contributor to pay it”. Further there should be an appropriate timing of tax collection and its mode of receiving payments should be such which is easy and convenient to the tax-payers. Such taxes are least felt by the tax-payers as they are collected at a time when they have sufficient money or income; otherwise they may be put to difficulties. In addition the good tax system thus possesses the following characteristics:
It ensures maximum social advantage. Thus taxation should be used to finance public finance. Public Economics: Lecture Notes prepared by Mr. Ildephonse MUSAFIRI Page 48
49 It should cause minimum aggregate sacrifice. In a good tax system, the allocation of taxes among tax-payers is made according to the ability to pay. In a good tax system, taxes are universally applicable in the sense that persons with the same ability to pay are treated in the same way without any discrimination whatsoever. It contains predominance of good taxes satisfying most of the canons of taxation. That is the taxes imposed are more or less equitable, convenient to pay, economical, certain, productive, flexible, and simple as far as possible. The entire structure of the tax system should have built-in flexibility so that changes are possible according to the changing conditions of a dynamic economy. It should be possible to add or withdraw a tax without destroying the entire system and its balancing effect. A rigid tax structure is very unsatisfactory. Taxation must cope with the changing needs of the modern government. Capacity to adjust itself to the dynamic conditions is a virtue of a good tax system. It should not hinder the growth of trade and industry; rather it helps the rapid economic development of the country. It is a balanced tax system. It means there must exist not one kind of taxes but all types on a proper balance. In other words it should contain all sorts of taxes that is progressive, regressive and proportional taxes. 5.4.4. Kinds of Tax rates In considering the relationship existing between tax rate and the tax base (income), there are four types of taxes as follows below: Proportional taxes: these refer to the taxes which remain constant, though the tax base changes. In a proportional tax system, taxes vary in direct proportion to the change in income. However proportional taxes are not equitable as poor and rich are taxed at the same rate. Public Economics: Lecture Notes prepared by Mr. Ildephonse MUSAFIRI Page 49
50 Progressive taxes: these refer to the taxes which the rate increases as the tax base increases. Thus in a progressive tax, amount of tax paid will increase at a higher rate than the increase in tax base or income, for the taxation amount is the product of multiplying base by the rate and both these increase in a progressive tax. Degressive taxes: these are taxes which are mildly progressive, hence not very steep. In this type a tax may be progressive up to a certain limit after that it may be charged at a flat rate. 5.4.5 Taxable capacity It refers to the maximum tax which might be collected from a particular tax-payer or a group of tax-payers. In ordinary terms it refers to the maximum capacity of a community to bear taxes without much hardship. It indicates that degree of taxation beyond which productive effort and efficiency as a whole begin to suffer. The knowledge of taxable capacity is, therefore very important to a modern government. In a sense that by knowing the taxable limits, the government can refrain from imposing unduly high taxes which may prove irksome and cause resentment among the people. Determinants of Taxable Capacity The taxable capacity of a country is determined by a number of factors. The main factors are: 1. Size of income and Wealth: generally the larger wealth and income of the country, greater is its taxable capacity. Hence rich nations have a higher taxable capacity than poor nations. 2. Distribution of National Income and wealth: The taxable capacity largely depends on how income and wealth are shared by the people. In that taxable capacity will be greater if greater is inequality of income and wealth in the country, since relative taxable capacity implies the ability to pay and save, which is greater in case of a few very rich persons than the case of so many moderately well-to-do people. Further there is equality of income every one will have the same marginal income utility, hence the sacrifice will increase faster with progressive rates of taxation; therefore a greater resistance will be caused against heavy taxation than otherwise. However it should be noted that, income inequalityis not justifiable in modern economies though generates more revenues. Equal distribution of income among the citizens should be the ultimate objective of any government. 3. Stability and Growth of Income: basically if the economy operates smoothly and
progresses well, and ensures a stable and growing income, the taxable capacity of the community will be higher. But, if there are fluctuations with serious ups and downs, and especially during a depression, taxable capacity will obviously be lower. 4. Size and growth rate of Population: A high per capita income expresses a greater ability to pay. But given the national income of a country, its per capita income depends on its population number. Hence country having a vast population with a galloping rate of growth has a lower taxable capacity than a country having a small and constant population. It should be noted that normally when the national income grows faster than the population the taxable capacity is increased. Therefore developing countries need to check their population growth in order tom expand their tax resources for developmental planning. 5. Standard of Living of the People: the standard of living determines the consumption pattern and habit of the community. A community accustomed to greater needs as satisfaction on account of high standards of living cannot bear great sacrifice in paying taxes; hence its taxable capacity will be less. But if the standard of living is low, there is a greater surplus available for taxation, so that taxable capacity will be high. Further, taxable capacity will increase with a rise in income provided the standard of living remains unchanged. 6. Price Level: If the price level is reasonably low and stable, a high income means greater taxable capacity. But, if prices are rising fast, a very high income may also pose a low capacity in real terms. 7. Characteristics of the tax system: A multiple tax system has a greater advantage of enlarging the overall taxable capacity than a single tax system. This however does not mean that the tax system should be complicated by a bundle of taxes. Rather should be simple which would increase the taxable capacity. Thus the kinds of taxes imposed and manner of levying taxes too influence the taxable capacity of the country. In that those taxes which cause no resentment or interfere the least with economic efforts permit a higher taxable capacity than those which constantly cause friction and damage. Public Economics: Lecture Notes prepared by Mr. Ildephonse MUSAFIRI Page 51
52 8. Nature and Purpose public Expenditure: The proceeds of the taxation are determining factor in the taxable capacity. If public expenditure is largely for developmental schemes the productive power of the country improves and thus the taxable capacity enlarges. Further taxation intended for financing capital formation is therefore quite justified as it raises the taxable capacity in effect. 9. Political Condition: An efficient and honest administration of the government and the maintenance of law and order is very essential for improving taxable capacity. Generally when people appreciate the government, they will be willing to undergo many hardships and bear heavier taxes to in order to enable the government to undertake welfare measures beneficial to the common people; hence the taxable potential automatically expands. 10. Psychology of the People: People will be patriotic only towards the government but not to
the invaders, hence taxable capacity of the nation would be greater in war times when people are ready to bear any burden on sentimental and patriotic grounds. Further economic cycle affects the general psychology of the people. In that during the prosperity, people in general are optimistic and have greater taxable capacity. But during depression when the wave of pessimism prevails, taxable limit is minimum.
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